Potential Pilot Problems:Treatment Spillovers in Financial Regulatory Experiments

Professor of Finance, Duke Realty Chair, Krannert School of Management, Purdue University

Prof. Xiaoyan Zhang's CV

Generally, the total effect of a regulatory change consists of direct and indirect effects. The standard difference-in-difference approach measures only direct effects, assuming the control group is unaffected. We examine the 2007 SEC repeal of the uptick rule and find that the indirect effects are substantial. Unlike the 2005 partial repeal, total repeal enables aggressive portfolio shorting. Short sellers become much more aggressive across the board, and shorting activity increases, even in control stocks where the uptick rule was already suspended. We conclude that regulatory pilot designers should carefully consider potential spillovers.