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An Experimental Analysis of Contingent Capital with Market-Price Triggers

  • Douglas D. Davis

    ()

    (Department of Economics, VCU School of Business)

  • Korenok Oleg

    ()

    (Department of Economics, VCU School of Business)

  • Edward S. Prescott

    ()

    (Federal Reserve Bank of Richmond)

We report an experiment that evaluates three market-based regimes for triggering the conversion of contingent capital bonds into equity: a Òfixed-triggerÓ regime, where a price threshold triggers mandatory conversion, a ÒregulatorÓ regime, where regulators make conversion decisions based on prices and a Òprediction-marketÓ regime, where regulators also observe a market that predicts conversion. Consistent with theory, we observe inefficiencies and conversion errors in the fixed-trigger and regulator regimes. The prediction market somewhat improves the regulatorÕs performance, but inefficiencies and conversion errors persist. The regulator regime has conversion errors over the widest range of shocks.

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Paper provided by VCU School of Business, Department of Economics in its series Working Papers with number 1102.

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Length: 41 pages
Date of creation: Oct 2011
Date of revision: Apr 2013
Handle: RePEc:vcu:wpaper:1102
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