Abstract
ABSTRACTWe analyze the role of financial markets in shaping the incentives of government agencies using a unique empirical setting: the weather derivatives market. We show that the introduction of weather derivative contracts on the Chicago Mercantile Exchange (CME) improves the accuracy of temperature measurement by 13% to 20% at the underlying weather stations. We argue that temperature‐based financial markets generate additional scrutiny of the temperature data measured by the National Weather Service, which motivates the agency to minimize measurement errors. Our results have broader implications: the visibility and scrutiny generated by financial markets can potentially improve the efficiency of government agencies.
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