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Advances in Measuring Firm-Level Uncertainty

Paper Session

Friday, Jan. 3, 2020 2:30 PM - 4:30 PM (PST)

Marriott Marquis, Coronado Room
Hosted By: American Economic Association
  • Chair: Derek Lemoine, University of Arizona and NBER

Measuring the Effects of Firm Uncertainty on Economic Activity: New Evidence from One Million Documents

Kyle Handley
,
University of Michigan
J. Frank Li
,
University of Michigan

Abstract

We construct a new time-varying measure of firm-specific uncertainty from analyzing the text of company reports filed with the U.S. Securities and Exchange Commission. We explore the implications of idiosyncratic variation in firm-level uncertainty in the aggregate and with firm-level micro-data. We find the new measure is negatively correlated with growth in aggregate investment, GDP, and employment even after controlling for other measures of first moment shocks and aggregate uncertainty. The effect of our firm-level measure on aggregate data is comparable to alternative uncertainty measures such as the VIX. Using firm-level panel data on investment and employment with a rich set of controls, we find our measure of firm-specific uncertainty has reasonably large effects on investment and employment even after controlling for aggregate and industry time-varying shocks. Firm uncertainty shocks (1) reduce investment rates by 0.5% and attenuate the response to positive sales shock by 50% and (2) reduce employment growth rates by 1.4% and responsive to positive sales shocks by 30%. Most of the employment growth reductions operate through diminished gross job creation at new plants and continuing establishments. Moreover, we find firms are less responsive to demand shocks at the firm level and across establishments within a firm, even after controlling for any unobservable firm-year shocks.

Uncertainty Is More Than Risk - Survey Evidence on Knightian and Bayesian Firms

Rudi Bachmann
,
University of Notre Dame
Kai Carstensen
,
Christian Albrechts University of Kiel
Stefan Lautenbacher
,
Ifo Institute
Martin Schneider
,
Stanford University

Abstract

Do firms think in terms of probabilities? Using a new module in the ifo manufacturing business cycle survey from Germany, we give firms an option to express expectations about their future sales growth with either probabilities or probability intervals. While at any given point in time, most firms (70-80 percent) choose to answer with probabilities, roughly three quarters of the firms choose an interval (Knightian response) at least once in the four year sample we observe them. Bayesian expectation expression thus does not appear to be a fixed firm type; rather, there is a lot of churn between Bayesian and Knightian responses. We show that Knightian responses are not the result of weaker numeracy of the respondents. Knightian responses are more prevalent at smaller and non-exporting firms, they tend to be more persistent for small firms, and they are correlated with lower capacity utilization at the firm level. At the macro level, Knightian responses increase with the Greek crisis, which we show to be mainly driven by large and exporting firms.

What Were the Odds? Estimating the Market's Probability of Uncertain Events

Ashley Langer
,
University of Arizona
Derek Lemoine
,
University of Arizona and NBER

Abstract

The event study methodology has been widely used in economics and finance to understand the effect of events on firms' stock prices. However, without knowledge of the probability that market actors placed on the event before it happened, this approach can only bound the full magnitude of the effect of an event on firm valuations. We develop two nonparametric methods for recovering the market's priced-in probability of events from the prices of widely traded financial options. These methods involve running an event study on options prices in addition to the standard event study in stock prices. We demonstrate the power of our new methods through applications to prominent events in health care regulation: we recover election probabilities broadly consistent with polling data and also recover probabilities for events such as court cases that lack either polling data or prediction markets.

The Global Impact of Brexit Uncertainty

Tarek Hassan
,
Boston University
Stephen Hollander
,
Tilburg University
Laurence van Lent
,
Frankfurt School of Finance & Management
Ahmed Tahoun
,
London Business School

Abstract

Using tools from computational linguistics, we construct new measures of the impact of Brexit on listed firms in the United States and around the world; these measures are based on the proportion of discussions in quarterly earnings conference calls on the costs, benefits, and risks associated with the UK's intention to leave the EU. We identify which firms expect to gain or lose from Brexit and which are most affected by Brexit uncertainty. We then estimate effects of the different types of Brexit exposure on firm-level outcomes. We find that the impact of Brexit-related uncertainty extends far beyond British or even European firms; US and international firms most exposed to Brexit uncertainty lost a substantial fraction of their market value and have also reduced hiring and investment. In addition to Brexit uncertainty (the second moment), we find that international firms overwhelmingly expect negative direct effects from Brexit (the first moment) should it come to pass. Most prominently, firms expect diffculties from regulatory divergence, reduced labor mobility, limited trade access, and the costs of post-Brexit operational adjustments. Consistent with the predictions of canonical theory, this negative sentiment is recognized and priced in stock markets but has not yet significantly affected firm actions.
Discussant(s)
Scott Baker
,
Northwestern University
Venky Venkateswaran
,
Federal Reserve Bank of Minneapolis
Justin Wolfers
,
University of Michigan
John Michael Van Reenen
,
Massachusetts Institute of Technology
JEL Classifications
  • D8 - Information, Knowledge, and Uncertainty
  • G1 - General Financial Markets