Essays in financial economics

Abstract

This dissertation consists of three chapters. Chapter 1 proposes a dynamic general equilibrium model to study jointly (i) the pace of technological progress and (ii) asset pricing properties of investment in innovation. Risk is a key characteristic that links the two together. Both empirically and in my theory innovation activity is associated with elevated levels of idiosyncratic risk. In the model, idiosyncratic risk is driven by uncertain productivity improvements and disruption that emerge in the process of innovation. Thus idiosyncratic risk is an instrumental determinant of the rate of technological progress and expected returns on investment in innovation. A calibrated version of the model provides an accurate quantitative description of the venture capital cycles both in terms of investment flows and financial returns.

Joint study with Hui Chen and Jiang Wang in Chapter 2 investigates the effects of market-wide trading halts, also called circuit breakers, on stock prices and trading behavior. We develop a model to examine how circuit breakers impact the market when investors trade to share risk. We show that a downside circuit breaker tends to lower the stock price, increase its volatility and raise the likelihood of reaching the triggering price. The volatility amplification effect becomes stronger when the wealth share of the relatively pessimistic agent is small. In Chapter 3 I develop a theory that shows how search frictions in the labor market shape asset pricing properties of stock returns. My theory reconciles and links together two empirical facts: (i) economic downturns are associated with higher pace of job reallocation and (ii) rapidly growing firms on average yield lower returns on their stocks compared to shrinking firms.

In the model, firms with more growth opportunities benefit from recessions due to more slack in the labor market, since in recessions growing firms can hire more and expand quicker. This feature makes growth firms' value less cyclical. A calibrated version of the model successfully replicates predictability of returns in the cross-section by a range of growth indicators.