Dai, Liang. Working Paper. “Asset Bundling and Information Acquisition of Investors with Different Expertise.” (Job Market Paper).Abstract

This paper investigates how a profit-maximizing asset originator can coordinate the information acquisition of and interaction among investors with different expertise by means of asset bundling. Bundling is beneficial to the originator when it can discourage investors from learning about idiosyncratic risks and focuses their attention on aggregate risks. But it is optimal to sell aggregate risks separately, to exploit investors' heterogeneous expertise in learning about them and thus lower the risk premium. This analysis rationalizes the common practice of bundling loans by asset classes in securitization, which is at odds with existing theories based on diversification. The analysis also offers an alternative perspective on conglomerate formation (a form of asset bundling) and the relation to empirical evidence in that context is discussed.

Job Market Paper (updated 01/25/2015)
Chen, Cheng, and Liang Dai. Working Paper. “Middle Income Trap, Branching Deregulation, and Political Influence”.Abstract

The last thirty years of the 20th century have witnessed branching deregulation of the U.S. banking industry in most states. One striking feature is that branching deregulation usually happened in those states in recessions. We present a model featuring the tradeoff between social welfare and political contributions faced by the government to justify this finding. When a state is in recession, the banking sector's profit, a part of which is extracted by the government through contribution, shrinks more than the decrease in the profit of non-financial firms. As a result, the government gains less from restricting the entry in the banking industry, and accordingly has a greater incentive to deregulate it to achieve a higher social welfare. We then use Bank Regulatory data from Compustat and micro-level data from Center for Responsive Politics of political contributions from the banking sector to provide evidence to support the basic premise and main results of the paper. We argue that our story for branching deregulation provides a new explanation for the middle income trap. That is, only when the economy achieves a certain level of development, does the government have a large enough incentive to design distorted policies and extract rents from the economy. These distorted policies reduce social welfare and hinder further development of the economy. Empirical evidence presented in Aiyar et al. (2013) strongly supports this argument.

Dai, Liang. In Preparation. “Security Design under Routine Auditing.” Preliminary and Incomplete.Abstract

In real life, investors usually hire accounting firms to audit the firm they invest in routinely—the effort involved in auditing is set upfront and does not depend on the information reported by the firm. This paper explores the implication of routine auditing in an otherwise standard costly state verification framework of Townsend (1979). The resulting optimal security is shown to be equity instead of debt.