A strategic approach to hedging and contracting
AbstractThis paper provides a new rationale for hedging that is based partly on noncompetitive behavior in product markets. The authors identify a set of conditions that imply that a firm may want to hedge. Empirically, these conditions are consistent with what is observed in the marketplace. The conditions are: 1) firms have some market power in their product market; 2) firms have limited liability; and 3) firms can contract to sell their output at a specified price before all factors that can affect their profitability are known. For some parameter specifications, however, the model predicts that firms will not want to hedge. This is important as the hedging results since, in practice, a large fraction of firms do hedge their cash flows, but a substantial number do not.
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Bibliographic InfoPaper provided by Federal Reserve Bank of Cleveland in its series Working Paper with number 0119.
Date of creation: 2001
Date of revision:
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