Conventional financial statements are prepared following historic cost accounting system. The continuing and high rate of inflation has reduced the usefulness of accounts to users of accounts to such an extent that it is necessary to make a major change in the existing accounting practice. The nature of the necessary change has been debated for many years and a number of solutions have been put forward. The purpose of this study is to propose an approach to account for inflation that would be most useful and appropriate in the context of developing economies. It has been stressed that accounting is a product of its environment and an inflation accounting system should suit the environment present in developing countries to function properly. Economic forces generating inflation, development of accounting profession, reqUirement of accounting information in micro and macro level of operations and economic decision making have been reviewed to follow and assess the particular requirement and importance of accounting for inflation in developing economies. This review and analysis served us to formulate the basic framework within which an inflation accounting system has to operate. The evaluation process of various inflation accounting methods began with consideration of fundamentals in economics and accounting theory. Critical evaluation of inflation accounting methods widely debated as best alternatives to historic cost accounting were made on the basis of pre-determined criteria. This evaluation process helped us to isolate and appraise the key factors both of theoretical and practical nature of such inflation accounting methods. This was followed by a closer look at the inflation accounting systems developed in high inflationary situation in Latin America. A synthesis of ideas and informations derived from the evaluation process led us to recommend an inflation accounting system based on the basic prinCiples and concepts of Current Cost Accounting (CCA). We were convinced that the utility which would be presented by some form of CCA should be recognised in developing economies. Particular problems confronting the implementation of a CCA based accounting system have been critically considered. The theoretical and practical aspects of implementing such an accounting system have been formulated in a detailed recommendation.

The thesis investigates the presence of idiosyncratic characteristics in commodity futures markets that lead to profitable trading strategies, effectively testing the efficiency of commodity markets. First, short-term continuation and long-term reversal in commodity futures prices are examined. While contrarian strategies do not work, 13 profitable momentum strategies have been identified that generate 9.38% average return a year. On average the momentum strategies buy backwardated contracts and sell contangoed contracts. Testing the direct implication of this behavior, the strategy of buying the most backwardated and selling the most contangoed commodities is examined. With significant annualized alphas of 10.14% and 12.66% respectively the momentum and term structure strategies appear profitable when implemented individually. The thesis continues by investigating the combined role of momentum and term structure signals. With an abnormal return of 21.02%, our double-sort strategy that exploits both momentum and term structure signals clearly outperforms the single-sort strategies. The thesis continues by examining the role of momentum, term structure and time to maturity/expiry factors in the design of enhanced commodity indices. In a long-only framework the momentum parameterized Standard & Poor's Goldman Sachs Commodity Index (S&P- GSCI former GSCI) and Dow-Jones UBS Commodity Index (DJ-UBSCI former DJ-AIGCI) yield 0.46 and 0.9 times higher returns than the traditional S&P-GSCI and DJ-UBSCI respectively. The term structure parameterized S&P-GSCI and DJ-UBSCI exhibit 0.63 and 0.68 times higher returns respectively. The combined parameterized indices increase the outperformance by 0.65 and 1.02 times and the longer maturity indices yield on average 1.37 and 1.97 times higher returns than the traditional indices respectively. These findings can be exploited for diversification purposes in a long-only commodity world or deployed as a framework to facilitate choosing among commodity indices.

China has been growing rapidly over the last decades. The private sector is the driving force of this growth. This thesis focuses on firm-level investment and cash holdings in China, and the chapters are structured around the following issues. 1. Why do private firms grow so fast when they are more financially constrained? In Chapter 3, we use a panel of over 600,000 firms of different ownership types from 1998 to 2007 to find the link between investment opportunities and financial constraints. The main finding indicates that private firms, which are more likely to be financially constrained, have high investment-investment opportunity sensitivity. Furthermore, this sensitivity is relatively lower for state-owned firms in China. This shows that constrained firms value investment opportunities more than unconstrained firms. To better measure investment opportunities, we attempt to improve the Q model by considering supply and demand sides simultaneously. When we capture q from the supply side and the demand side, we find that various types of firms respond differently towards different opportunity shocks. 2. In China, there are many firms whose cash flow is far greater than their fixed capital investment. Why is their investment still sensitive to cash flow? To explain this, in Chapter 4, we attempt to introduce a new channel to find how cash flow affects firm-level investment. We use a dynamic structural model and take uncertainty and ambiguity aversion into consideration. We find that uncertainty and ambiguity aversion will make investment less sensitive to investment opportunities. However, investment-cash flow sensitivity will increase when uncertainty is high. This suggests that investment cash flow sensitivities could still be high even when the firms are not financially constrained. 3. Why do firms in China hold so much cash? How can managers’ confidence affect corporate cash holdings? In Chapter 5, we analyse corporate cash holdings in China. Firms hold cash for precautionary reasons, to hedge frictions such as financing constraints and uncertainty. In addition, firms may act differently if they are confident or not. In order to determine how confidence shocks affect precautionary savings, we develop a dynamic model taking financing constraints, uncertainty, adjustment costs and confidence shocks into consideration. We find that without confidence shocks, firms will save money in bad times and invest in good times to maximise their value. However, if managers lose their confidence, they tend to save money in good times to use in bad times, to hedge risks and financing constraint problems. This can help explain why people find different results on the cash flow sensitivity of cash. Empirically, we use a panel of Chinese listed firms. The results show that firms in China save more money in good times, and the confidence shock channel can significantly affect firms’ cash holdings policy.

This thesis consists of three chapters on the dynamics of asset returns, with a focus on global stocks and bonds. The first chapter investigates the contagion effect between the European stock and bond markets, and between the Greek bond market and other European bond markets. The perspectives of nonlinear contagion effects and the predictability of contagion are also investigated in the first chapter. The main findings are as follows. Firstly, the European sovereign debt crisis generally leads to contagion effects between domestic stock and bond markets, and this is more likely in relatively smaller countries. The financial crisis had generally led to a higher level of flight-to-quality, whilst this has also been found over the tranquil period, especially in the relatively larger countries. Secondly, the contagion effect between the Greek and other European bond markets started appearing at least four months earlier than the beginning of the European debt crisis. Thirdly, strongly significant copula estimation results reinforce the findings of the existence of nonlinear contagion effect in the Eurozone area. In addition, the information asymmetry carried by the counterpart of the GJR model significantly increases the ability of the Student-t copula to detect changes of dependence structure. Finally, conditional volatility as an explanatory variable is found to be statistically significant in explaining and predicting the contagion across at least five countries, and the level of exchange rate shows its predictive power in contagion for at least four countries. The interest rate (the level of risk free rate for the Eurozone area) is found to have the weakest predictive power amongst all the explanatory variables considered. The second chapter examines the bi-directional relationships between stock returns and trading volume, and between trading volume and volatility. By using the nonlinear Granger causality test, we find the existence of both bi-directional relations between stock returns and trading volume, and between trading volume and volatility. Further to this, from limiting the sample period to the widely known tranquil period (1994 to 2006), an interesting result is found. In comparison to the full sample test, statistically significant nonlinear results are also observed from the tranquil period. However, the nonlinear feedback from stock returns to trading volume, and the nonlinear feedback from volatility to trading volume are shown to be much stronger during the tranquil sample period than the other way round. The third chapter evaluates the effects of fundamental factors on international stock returns. Dividend, earnings and interest rate are considered as fundamental factors. The results from the international stock markets are mixed: some markets see dividends playing a more significant role in explaining the variation of stock returns, and some markets see earnings playing a more significant role. However, neither dividend nor earnings can predict the returns changes in a few markets. In order to investigate this problem, we take one step further through estimating the effects of changes of interest rates upon dividend and earnings discount models. However, our analysis only finds a slight influence there. This suggests that other unexamined factors are more important, consequently, further research is required for clarification.

In this thesis we study three different, but interconnected low-factor market models: LIBOR market model, Markov-functional model, and two-currency Markov-functional model. The LIBOR market model (LMM) is one of the most popular term structure models. However, it suffers from a major drawback, it is high-dimensional. The problem of highdimensionality can be in part solved imposing a separability condition. We will be interested how the separability condition interacts with time-homogeneity, a desirable property of an LMM. We address this question by parametrising two- and three-factor separable and time-homogeneous LMMs and show that they are of practical interest. Markov-functional models (MFMs) are a computationally efficient alternative to the LMMs. We consider two aspects of the MFMs, implementation and specification. First we provide two new algorithms that can be used to implement the one-dimensional MFM under the terminal and the spot measure driven by a general diffusion process. Since the existing literature has been focused exclusively on the Gaussian driving processes our algorithms open the scope for new parameterisations. We then prove that the dynamics of the onedimensional MFM are only affected by the time dependence of the driving process, described by a copula, and not by its marginal distributions. We then shift our focus and show that the one-dimensional MFM under the terminal measure is closely related to the one-factor separable local-volatility LMM. Finally, we move our attention to the models of a two-currency economy. We propose a new three-factor model that we calibrate to the domestic and foreign caplet prices and the foreign exchange call options. To maintain the no-arbitrage condition while calibrating to foreign exchange market we propose a predictor-corrector type step. It is our conjecture that the predictor-corrector step converges, thus the model is well defined.

This thesis studies several practical issues in asset pricing, including MCMC estimation of time-changed Lévy processes, calibration techniques for stochastic volatility models, and a sampling scheme for the SABR model. First, a MCMC estimation approach is developed to estimate time-changed Lévy processes. Simulation-based experiments demonstrate good accuracy of the MCMC approach. An empirical study on its fitness of the return dynamics is provided, which shows that time-changed Lévy models can achieve excellent performance in capturing index returns. Second, a further study on MCMC estimation is applied to multivariate Lévy processes, in order to evaluate the efficiency and accuracy of the Bayesian technique for high-dimensional portfolio theory. Last, a new representation of the SABR model is proposed by adopting a coupling approach, based on which, the uncorrelated SABR is sampled from its density. Numerical experiments are implemented to compare the sampling scheme with the Euler discretization scheme and examine the accuracy of Hagan’s popular formula for the implied Black-Scholes volatility.

This thesis is divided into eight main chapters and makes contributions to the area of financial crises and international finance. The first chapter provides a general introduction to the thesis and highlights the main contributions of our work. The second chapter is a literature review which provides a well-defined structure to organise our thoughts about the literature on micro-systemic risks and Central Bank policy. The chapter initially reviews the literature for single-bank crises. It then proceeds on to provide a succinct account of multiple-bank crises and of financial crises that result from the interaction between banks and financial markets. The main value-added of this chapter is that it helps us identify those areas in the literature in which research work is missing. This provides legitimate foundation for building new models to address these issues. The subsequent chapters of this thesis have emerged to bridge these missing gaps identified in our literature review. Chapters 3, 4 and 5 deal with banking panic transmission in two-bank scenario. With common investments affected by the same macroeconomic fundamental, a crisis that spreads from one bank to another has contagious and correlated elements. The purpose of these chapters is to provide a robust theoretical account that can enable us distinguish between these two elements in probability terms. We embed a two-bank model within a dynamic Bayesian setting and use the global games approach to derive the existence of trigger equilibrium in each bank. Chapter 3 provides an overview of our banking environment. Chapter 4 makes a contribution to derivation of the equilibrium concept and shows the equivalence between Perfect Bayesian Equilibrium (PBE) of our game and trigger equilibrium. Chapter 5 encapsulates all results. We show the existence of contagion as one of `excess correlation' between banks. This allows us to depart from existing theoretical papers which explain contagion as interdependence. Furthermore, we show that whether contagion or correlation occurs is a function of the relative importance depositors attach to private vs public signals. The chapter ends by identifying some puzzles (zero-link, clustering and avoidance) which our paradigm can explain and throws light on ways (which are not captured by single-bank models) Central Banks should implement prudential policy measures. Chapters 6, 7 and 8 deal with financial crises in open economies. An important limit of existing bank run models is that they are developed without taking into account the level of economic development of the economy in which they occur. We are interested in studying how financial crises occur in an Emerging Market Economy (EME) and, most importantly, how the nature of their occurrence differs when the exogenous macroeconomic constraints of an EME are duly accounted for. Chapter 6 introduces the main banking environment we study in the subsequent two chapters. Important among the assumptions are that all depositors in the banking system are foreign investors (the economy is fully liberalised) and that banks have balance sheets characterised by liability dollarisation. We use the mechanism design approach to show the existence of a pecking order in allocation of resources and liquidity. In particular, we show that a banking allocation is weakly Pareto- inferior to that of a Planner who observes all structures of the economy but its stochastic fundamentals and who achieves second-best allocation. Once this banking allocation is derived, Chapter 7 studies the nature of the transmission mechanism from a banking crisis to a currency crisis. We show that under certain parametric restrictions, Lender-of-Last Resort (LOLR) policies may be a conduit that generates a currency crisis. In a multi-bank setting, LOLR may even be sub-optimal since it may induce devaluation-based bank runs at other banks. Chapter 8 studies the reverse causation from a currency crisis to a banking crisis. Both chapters 7 and 8 offer useful guidance to policy. The success of a policy measure depends on its ability to restore the Planner's second-best. A number of policy options (e.g state-contingent controls) are studied and suggestions for design of exchange rate regimes, based on ability to ward off the twin crises, are offered as well.

The first chapter studies the impact of variance risk in the Treasury market on both term premia and the shape of the yield curve. Under minimal assumptions shared by standard structural and reduced-form asset pricing models, I show that an observable proxy of variance risk in the Treasury market can be constructed via a portfolio of Treasury options. The observable variance risk has the ability to explain the time variation in term premia, but is largely unrelated to the shape of the yield curve. Using the observable variance risk, I also propose a new representation of no-arbitrage term structure models. All the pricing factors in the model are observable, tradable, and hence economically interpretable. The representation can also accommodate both unspanned macro risks and unspanned stochastic volatility in the term structure literature. The second chapter shows that it is beneficial to incorporate a particular zero-cost trading strategy into approaches that extract a stochastic discount factor from asset prices in a model-free manner (e.g. the Hansen-Jagannathan minimum variance stochastic discount factor). The strategy mimics the Radon-Nikodym derivative between two pricing measures with alternative investment horizons, and is hence characterized by the term structure of the SDF (or the dynamics of the SDF). Incorporating the strategy into the Euler equation significantly enhances the ability of the extracted stochastic discount factor to explain crosssectional variation of expected asset returns. Furthermore, the strategy remarkably tightens various lower bounds for the stochastic discount factor, hence setting a more stringent hurdle for equilibrium asset pricing models. The third chapter studies variance risk premiums in the Treasury market. We first develop a theory to price variance swaps and show that the realized variance can be perfectly replicated by a static position in Treasury futures options and a dynamic position in the underlying. Pricing and hedging is robust even if the underlying jumps. Using a large options panel data set on Treasury futures with different tenors, we report the following findings: First, the term-structure of implied variances is downward sloping across maturities and increases in tenors. Moreover, the slope of the term structure is strongly linked to economic activity. Second, returns to the Treasury variance swap are negative and economically large. Shorting a variance swap produces an annualized Sharpe ratio of almost two and the associated returns cannot be explained by standard risk factors. Moreover, the returns remain highly statistically significant even when accounting for transaction costs and margin requirements.

In most countries financial authorities regulate capital markets by monitoring banks’ lending activity and imposing disclosure requirements on issuers of publicly traded securities. However, most companies’ financial claims are not listed and many different investors, outside of the banking industry, affect credit expansion and capital provision to the real economy. Examples of non-banks capital providers include venture capital firms and money market funds. This PhD thesis focuses on the growing and largely unsupervised finance arena that lies outside of traditional banking intermediation or public capital markets. In the first chapter, “Are Family and Friends the Wrong Investors? Evidence from U.S. Start-ups”, I investigate the effects of funding from family and friends on firms’ subsequent access to venture capital. To address potential endogeneity of informal finance, I use an instrument that hinges on founders’ family size as an exogenous constraint on the supply of informal funds. My results show that informal finance reduces the probability of future financing events. In the second chapter, “Private Capital Markets and Entrepreneurial Debt: Evidence from U.S. Unregistered Securities Offerings” co-authered with Dr. Juanita Gonzalez-Uribe, we investigate the use of non-bank private debt by very early stage firms. Contrary to many accounts of start-up activity, we document that entrepreneurial firms have an important reliance on private debt. We show that late stage rounds are 3% more likely to be conducted with debt contracts but we find little evidence that collateral availability affects the issuance of private debt. Finally, in “Discipline in the Securitization Market”, I examine how investors’ sophistication in securitization markets affects efficiency of credit generation and loan performance. I find that it is never optimal to have a perfectly informed Buy Side, as it would constrain high quality credit generation. Furthermore, market discipline is facilitated by high risk free rates and diminished volatility in loan payoffs.

This thesis explores topics in financial intermediation and macro-finance. In the first chapter, my co-authors and I analyse the structure of the UK repo market using a novel dataset. We estimate the extent of collateral rehypothecation, and address the question of which variables determine haircuts using transaction-level data. We find that collateral rating and transaction maturity have first order of importance in setting haircuts. Banks charge higher haircuts when they transact with non-bank institutions even after controlling for measures of counterparty risk. We examine the structure of the repo market network and we find out that banks with higher centrality measures ask for more haircuts on reverse repos and pay lower haircuts on repos. In the second chapter, I study the real effects of benchmarking in fund management industry in a general equilibrium model where stocks of productive sectors are traded in a competitive equity market. Investors delegate their portfolio decisions to managers whose performance is benchmarked against an index. Managers hedge themselves by tilting their portfolio toward the index which increases the demand and price of the stocks that feature prominently in the index. In equilibrium there is an inefficient shift towards extreme states in which big sectors dominate the economy. I show that in presence of benchmarking, index inclusion is preceded by a rise in firm’s investment rate relative to its capital stock. In the third chapter, I examine balance sheet recessions in a general equilibrium model where agents have heterogeneous beliefs about future technology growth. I show a channel which describes the risk concentration through belief dispersion rather than ad-hoc constraints on aggregate risk sharing. Endogenous stochastic consumption volatility arises from constant fundamental volatility. I study the role of static vis-à-vis dynamic disagreement and examine the effect of financing constraints on the equilibrium when there is belief dispersion among agents.