(Some theoretical aspects of) Corporate Finance
|
|
- Britton Griffith
- 5 years ago
- Views:
Transcription
1 (Some theoretical aspects of) Corporate Finance V. Filipe Martins-da-Rocha Department of Economics UC Davis Part 6. Lending Relationships and Investor Activism V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
2 Outline 1 Basics of Investor Activism: Monitoring 2 Learning by lending V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
3 The model We start from the fixed-investment model We add a monitor who can intervene in order to reduce the scope for moral hazard V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
4 The model A risk-neutral entrepreneur with wealth A has to borrow I A in order to implement a project costing I The project yields R when it succeeds 0 when it fails The probability of success is ph if the entrepreneur works pl = p h p if he shirks V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
5 No monitoring In the absence of monitoring, shirking provides the private benefit B Denote by R b the entrepreneur s reward in the case of success (he receives nothing in the case of failure) Incentive compatibility requires that ( p)r b B Funding requires that the pledgeable income exceeds the investor s investment ( ρ 0 p h R B ) I A p If this condition is satisfied, and given that the investors breakeven condition is binding for an optimal contract, the entrepreneur s net payoff is equal to the project s NPV: Π b = p h R I V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
6 Monitoring (with fixed intensity) A monitor can reduce the private benefit that can be enjoyed by the entrepreneur from B to b < B The monitor must bear a private non-observable (by the entrepreneur) monitoring cost c > 0 A possible interpretation is that there are three projects good project bad project Bad project Prob(success) p h p l p l Private benefit 0 b B V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
7 Monitoring (with fixed intensity) The monitor moves first If he incurs effort cost c, he is able to identify the high-private-benefit Bad project and thus prevent the entrepreneur from selecting it he still cannot tell the other two projects apart The entrepreneur can condition his choice of project on the existence or absence of monitoring The entrepreneur can still choose the low-private-benefit bad project if he wishes to If the monitor does not incur the monitoring cost c then the investor can choose among the three projects (the low-private-benefit bad project is then irrelevant) V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
8 Monitoring (with fixed intensity) Assume that the entrepreneur hires a monitor The monitor should have incentives to incur the monitoring cost provided a reward R m in the case of success satisfying ( p)r m c The entrepreneur s private benefit from shirking is then equal to b The entrepreneur works if and only if the reward R b satisfies ( p)r b b We will assume that ( p)r b < B otherwise the entrepreneur is induced to work even in the absence of monitoring (which is then useless) V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
9 References For a discussion concerning the structure of incentives within the monitoring entity, we refer to Berger, A. and Miller, N. and Petersen, M. and Rajan, R. and Stein, J. Does function follow organizational form? Evidence from the lending pratices of large and small banks Journal of Financial Economics 76, 2005 V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
10 Abundance of monitoring capital Assume that there is a large supply of monitors who are willing to invest their capital in the monitoring activity as long as they breakeven They are thus willing to contribute to the firm s investment at level I m such that p h R n c = I m Then the monitor obtains no rent and receives the net payment p h R m I m equal to his monitoring cost c V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
11 Non-monitoring Investors Non-monitoring investors are willing to fund the project if and only if p h (R R b R m ) I A I m It follows that a necessary and sufficient for the project to be funded is ( p h R b ) I A I m p Monitoring reduces the agency costs from p h B/ p to p h b/ p But it adds monitoring cost c V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
12 The monitor The monitor s stake R m can be chosen equal to R m = c p The monitor s investment contribution can be chosen equal to I m = p lc p To obtain some potential role for monitoring, let us assume that monitoring increases the pledgeable income: p h b p + c < p B h p V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
13 The entrepreneur When does the entrepreneur benefit from having a monitor? Given the choice of the monitor s reward and investment, for the optimal contract, the non-monitoring investor must breakeven with equality Neither the monitoring nor the non-monitoring investors obtain a rent, therefore the payoff of the entrepreneur coincides with the NPV, i.e., Π b = p h R I c We assume that the NPV is positive even in the presence of monitoring p h R > I + c V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
14 Beneficial monitoring Monitoring reduces the entrepreneur s payoff by the monitoring cost The entrepreneur forgoes monitoring if he can obtain funding in its absence, i.e., if ( p h R B ) I A p We recall the threshold A defined by ( A I p h R B ) p Entrepreneurs with strong balance sheets, i.e., A A borrow cheaply because they can do without monitoring V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
15 Beneficial monitoring We introduce the threshold A defined by ( A I + c p h R b ) p Assuming that monitoring increases the pledgeable income then we get p h b p + c < p B h p A < A Borrowers with weaker balance sheets, i.e., borrow more expensively A A < A V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
16 References Empirical papers demonstrating the role of banks in the reduction of agency costs James, C. Some evidence on the uniqueness of bank loans Journal of Financial Economics 19, 1987 Lummer, S. L. and McConnell, J. Further evidence on the bank lending process and the capital-market response to bank loan agreements Journal of Financial Economics 25, 1989 Cantillo, M. and Wright, J. How do firms choose their lenders? An empirical investigation Review of Financial Studies 13, 2000 V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
17 Optimal Monitoring We extend the monitoring model by introducing uncertainty about the outcome of monitoring The monitor discovers the identity of the Bad project (the one yielding private benefit B) with probability x and learns nothing with probability 1 x The probability x of effective monitoring depends on the unverifiable effort cost or disutility of effort c(x) incurred by the monitor We assume that this disutility of effort is strictly increasing, convex and satisfies c(x) c(0) lim = 0 and lim x 0 + x x 1 c (x) = V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
18 Optimal Monitoring We assume that the borrower s reward R b in the case of success is smaller than B/ p (otherwise monitoring is useless) Assuming that monitoring capital and non-monitoring capital are abundant, they only require breakeven to participate to the financing of the project If the loan agreement is characterized by the monitoring intensity x then the net payoff of the borrower equals the NPV Π b (x) = xp h R + (1 x)(p l R + B) I c(x) The optimal monitoring intensity x must satisfy x (0, 1) and ( p)r B = c (x ) V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
19 Optimal Monitoring Let us assume that at this level of monitoring, there is enough pledgeable income to pay back investors, monitoring and non-monitoring: { [x p h + (1 x )p l ] R b } I A + c(x ) p We still assume that unmonitored borrowing is infeasible, i.e., [ ρ 0 p h R B ] < I A p V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
20 Optimal Monitoring The borrower cannot observe the monitoring intensity x, therefore the reward R m should be chosen such that x argmax{[xp h + (1 x)p l ]R m c(x) : x [0, 1]} and so that is, ( p)r m = c (x ) R m = R B p V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
21 Optimal Monitoring Because the entrepreneur is unable to borrow in the absence of monitoring, we have implying that R b < B p R m < R R b The monitor should not hold all external shares in the firm V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
22 Reference Pagano, M. and Roell, A. The choice of stock ownership structure: agency costs, monitoring, and the decision to bo public Quarterly Journal of Economics 113, 1998 V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
23 Learning by lending Now there are two periods t {1, 2} There is a discount factor β between the two periods Saving is impossible between the two dates V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
24 Date 1 Consider an entrepreneur without cash A = 0 He has a project requiring investment I at date t = 1 This project is successful with probability p and yields R fails with probability 1 p and yields 0 There is moral hazard p {p h, p l } and two types of misbehavior: low-private-benefit b of the bad project high-private-benefit B of the Bad project V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
25 Date 1 The private benefit B is large enough such that there is not enough pledgeable income to reimburse the initial investors if there is no monitoring There is no scarcity of monitors who incur cost c for monitoring Monitoring brings down the private benefit to b < B and generates enough pledgeable income to pay back the investment and the monitoring cost, i.e., ( p h R b ) I + c p This implies that the project can be financed V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
26 Date 2 Regardless of the first period profit, the entrepreneur has a new idea This second project (which can be thought of as a continuation of the first) is identical to the first project, except for one thing With probability α, the date-2 probability of success has increased uniformly by τ > 0 With probability 1 α the probabilities of success and failure are still p h and p l It is assumed that even with this improved profitability, the high private benefit B is so large that a monitor is still needed The profit realizations (success, failure) are statistically independent across periods V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
27 Date 2 We assume that there is no commitment (short-lived claims) First-period investor s return only comes from the first-period profit The firm issues new claims in the second period to finance continuation V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
28 Symmetric information Assume there is symmetric information at date t = 2: No one learns the realized date-2 profitability All agents (entrepreneur, monitors and uninformed investors) expect a date-2 profitability p h + τ with probability α and p h with probability 1 α The market for active monitors is competitive at all dates The (expected) net payoff of the entrepreneur at date t coincides with the NPV of the project where Π b (t) = p h (t)r (I + c) p h (1) = p h and p h (2) = p h + ατ The overall (expected) net payoff of the entrepreneur is then Π b = [p h R (I + c)] + β [(p h + ατ)r (I + c)] V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
29 Asymmetric information Assume now that the date-1 active monitor (called incumbent ) learns the date-2 profitability and is the only one to learn it The entrepreneur defines the active monitor s stake R 2 m in the case of success (0 in the case of failure) as follows R 2 m = c p The entrepreneur announces that the active monitor will be the bidder offering the highest investment contribution Im 2 We don t assume that the incumbent and the other potential active monitor/investors (called entrants ) make simultaneous offers It is complex The equilibrium of this bidding game is in general in mixed strategies V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
30 Asymmetric information New active monitors (entrants) offer investment contributions The incumbent active monitor then makes his offer He either matches the entrants top offer (plus an arbitrary small amount) and then remains the firm s monitor Or does not match it and is replaced The residual date-2 investment, I I 2 m, where I 2 m is the highest bid, is then contributed by non-active monitors (called uninformed ) investors V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
31 The winner s curse In the bidding game, the entrants optimally bid as if the probability of success were always the lowest possible one Im 2 = p h Rm 2 b c = p h p c Our timing assumption takes the adverse-selection problem to its extreme and maximizes the incumbency rent The uninformed investors contribute to the investment shortfall: I 2 u = I I 2 m The stake R 2 u is such that uninformed investors break even: (p h + ατ)r 2 u = I 2 u It is easy to verify that the entrepreneur s stake exceeds b/ p V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
32 Monitor s rent The entrepreneur s date-2 net payoff is then Π 2 b = (p h + ατ)(r R 2 u R 2 m) = [(p h + ατ)r I c] ατ ( ) c p The entrepreneur s net expected payoff is the equal to the expected NPV minus the incumbent monitor s expected rent ( ) c R 2 m = ατ p V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
33 Date-1 competition At date t = 1 potential active monitors are symmetrically informed We assume that the entrepreneur chooses the minimal incentive compatible reward Rm 1 Rm 1 = c p There is perfect competition of monitors for the block share R 1 m Monitors perfectly anticipate the future incumbency rent They are willing to make a generous offer by contributing up to ( ) c Im 1 = p h + βr 2 m p V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
34 Informational advantage and switching cost One can view the information advantage of the incumbent monitor as a switching cost that tends to lock the firm in with the monitor The anticipated ex post market power enjoyed by the incumbent is competed away at the ex ante stage through a short-term loss-making offer The blockholding is initially acquired at a premium, and is later maintained at a discount V. F. Martins-da-Rocha (UC Davis) Corporate Finance Spring quarter, / 34
(Some theoretical aspects of) Corporate Finance
(Some theoretical aspects of) Corporate Finance V. Filipe Martins-da-Rocha Department of Economics UC Davis Chapter 2. Outside financing: Private benefit and moral hazard V. F. Martins-da-Rocha (UC Davis)
More informationEconomics and Finance,
Economics and Finance, 2014-15 Lecture 5 - Corporate finance under asymmetric information: Moral hazard and access to external finance Luca Deidda UNISS, DiSEA, CRENoS October 2014 Luca Deidda (UNISS,
More informationBasic Assumptions (1)
Basic Assumptions (1) An entrepreneur (borrower). An investment project requiring fixed investment I. The entrepreneur has cash on hand (or liquid securities) A < I. To implement the project the entrepreneur
More informationTeoria das organizações e contratos
Teoria das organizações e contratos Chapter 5: The Moral Hazard Problem: Applications Mestrado Profissional em Economia 3 o trimestre 2015 EESP (FGV) Teoria das organizações e contratos 3 o trimestre 2015
More informationPrinciples of Banking (II): Microeconomics of Banking (3) Bank Capital
Principles of Banking (II): Microeconomics of Banking (3) Bank Capital Jin Cao (Norges Bank Research, Oslo & CESifo, München) Outline 1 2 3 Disclaimer (If they care about what I say,) the views expressed
More informationPractice Problems 1: Moral Hazard
Practice Problems 1: Moral Hazard December 5, 2012 Question 1 (Comparative Performance Evaluation) Consider the same normal linear model as in Question 1 of Homework 1. This time the principal employs
More informationChapter 7 Moral Hazard: Hidden Actions
Chapter 7 Moral Hazard: Hidden Actions 7.1 Categories of Asymmetric Information Models We will make heavy use of the principal-agent model. ð The principal hires an agent to perform a task, and the agent
More informationRevision Lecture Microeconomics of Banking MSc Finance: Theory of Finance I MSc Economics: Financial Economics I
Revision Lecture Microeconomics of Banking MSc Finance: Theory of Finance I MSc Economics: Financial Economics I April 2005 PREPARING FOR THE EXAM What models do you need to study? All the models we studied
More informationMicroeconomics Qualifying Exam
Summer 2018 Microeconomics Qualifying Exam There are 100 points possible on this exam, 50 points each for Prof. Lozada s questions and Prof. Dugar s questions. Each professor asks you to do two long questions
More informationProblem Set: Contract Theory
Problem Set: Contract Theory Problem 1 A risk-neutral principal P hires an agent A, who chooses an effort a 0, which results in gross profit x = a + ε for P, where ε is uniformly distributed on [0, 1].
More informationRural Financial Intermediaries
Rural Financial Intermediaries 1. Limited Liability, Collateral and Its Substitutes 1 A striking empirical fact about the operation of rural financial markets is how markedly the conditions of access can
More informationUNIVERSITY OF OSLO DEPARTMENT OF ECONOMICS
UNIVERSITY OF OSLO DEPARTMENT OF ECONOMICS Home exam: ECON5200/9200 Advanced Microeconomics Exam period: Monday, December 1 at 09:00 a.m. to Friday, December 5 at 02:00 p.m. Guidelines: Submit your exam
More informationMORAL HAZARD PAPER 8: CREDIT AND MICROFINANCE
PAPER 8: CREDIT AND MICROFINANCE LECTURE 3 LECTURER: DR. KUMAR ANIKET Abstract. Ex ante moral hazard emanates from broadly two types of borrower s actions, project choice and effort choice. In loan contracts,
More informationOnline Appendix. Bankruptcy Law and Bank Financing
Online Appendix for Bankruptcy Law and Bank Financing Giacomo Rodano Bank of Italy Nicolas Serrano-Velarde Bocconi University December 23, 2014 Emanuele Tarantino University of Mannheim 1 1 Reorganization,
More informationAsymmetric Information and the Role of Financial intermediaries
Asymmetric Information and the Role of Financial intermediaries 1 Observations 1. Issuing debt and equity securities (direct finance) is not the primary source for external financing for businesses. 2.
More informationComparing Allocations under Asymmetric Information: Coase Theorem Revisited
Comparing Allocations under Asymmetric Information: Coase Theorem Revisited Shingo Ishiguro Graduate School of Economics, Osaka University 1-7 Machikaneyama, Toyonaka, Osaka 560-0043, Japan August 2002
More informationIn this chapter, we discuss the fundamental problem of adverse selection in health insurance.
In this chapter, we discuss the fundamental problem of adverse selection in health insurance. This discussion is on asymmetric information between the consumer and the insurer. Consumers possess private
More informationInsurance, Adverse Selection and Moral Hazard
University of California, Berkeley Spring 2007 ECON 100A Section 115, 116 Insurance, Adverse Selection and Moral Hazard I. Risk Premium Risk Premium is the amount of money an individual is willing to pay
More informationG604 Midterm, March 301, 2003 ANSWERS
G604 Midterm, March 301, 2003 ANSWERS Scores: 75, 74, 69, 68, 58, 57, 54, 43. This is a close-book test, except that you may use one double-sided page of notes. Answer each question as best you can. If
More informationProblem Set: Contract Theory
Problem Set: Contract Theory Problem 1 A risk-neutral principal P hires an agent A, who chooses an effort a 0, which results in gross profit x = a + ε for P, where ε is uniformly distributed on [0, 1].
More informationSCREENING BY THE COMPANY YOU KEEP: JOINT LIABILITY LENDING AND THE PEER SELECTION EFFECT
SCREENING BY THE COMPANY YOU KEEP: JOINT LIABILITY LENDING AND THE PEER SELECTION EFFECT Author: Maitreesh Ghatak Presented by: Kosha Modi February 16, 2017 Introduction In an economic environment where
More informationPractice Problems 2: Asymmetric Information
Practice Problems 2: Asymmetric Information November 25, 2013 1 Single-Agent Problems 1. Nonlinear Pricing with Two Types Suppose a seller of wine faces two types of customers, θ 1 and θ 2, where θ 2 >
More informationMicroeconomic Theory (501b) Comprehensive Exam
Dirk Bergemann Department of Economics Yale University Microeconomic Theory (50b) Comprehensive Exam. (5) Consider a moral hazard model where a worker chooses an e ort level e [0; ]; and as a result, either
More informationDARTMOUTH COLLEGE, DEPARTMENT OF ECONOMICS ECONOMICS 21. Dartmouth College, Department of Economics: Economics 21, Summer 02. Topic 5: Information
Dartmouth College, Department of Economics: Economics 21, Summer 02 Topic 5: Information Economics 21, Summer 2002 Andreas Bentz Dartmouth College, Department of Economics: Economics 21, Summer 02 Introduction
More informationCorporate Control. Itay Goldstein. Wharton School, University of Pennsylvania
Corporate Control Itay Goldstein Wharton School, University of Pennsylvania 1 Managerial Discipline and Takeovers Managers often don t maximize the value of the firm; either because they are not capable
More informationMicroeconomic Theory August 2013 Applied Economics. Ph.D. PRELIMINARY EXAMINATION MICROECONOMIC THEORY. Applied Economics Graduate Program
Ph.D. PRELIMINARY EXAMINATION MICROECONOMIC THEORY Applied Economics Graduate Program August 2013 The time limit for this exam is four hours. The exam has four sections. Each section includes two questions.
More informationCompetition and risk taking in a differentiated banking sector
Competition and risk taking in a differentiated banking sector Martín Basurto Arriaga Tippie College of Business, University of Iowa Iowa City, IA 54-1994 Kaniṣka Dam Centro de Investigación y Docencia
More informationFinancial Intermediation, Loanable Funds and the Real Sector
Financial Intermediation, Loanable Funds and the Real Sector Bengt Holmström and Jean Tirole The Quaterly Journal of Economics, 1997, Vol 52, pages 663-692 Microeconomics of Banking, Freixas and Rochet,
More informationOWNERSHIP AND RESIDUAL RIGHTS OF CONTROL Ownership is usually considered the best way to incentivize economic agents:
OWNERSHIP AND RESIDUAL RIGHTS OF CONTROL Ownership is usually considered the best way to incentivize economic agents: To create To protect To increase The value of their own assets 1 How can ownership
More informationPindyck and Rubinfeld, Chapter 17 Sections 17.1 and 17.2 Asymmetric information can cause a competitive equilibrium allocation to be inefficient.
Pindyck and Rubinfeld, Chapter 17 Sections 17.1 and 17.2 Asymmetric information can cause a competitive equilibrium allocation to be inefficient. A market has asymmetric information when some agents know
More informationEconomic Development Fall Answers to Problem Set 5
Debraj Ray Economic Development Fall 2002 Answers to Problem Set 5 [1] and [2] Trivial as long as you ve studied the basic concepts. For instance, in the very first question, the net return to the government
More informationWhy is CEO compensation excessive and unrelated to their performance? Franklin Allen, Archishman Chakraborty and Bhagwan Chowdhry
Why is CEO compensation excessive and unrelated to their performance? Franklin Allen, Archishman Chakraborty and Bhagwan Chowdhry November 13, 2012 Abstract We provide a simple model of optimal compensation
More informationSequential-move games with Nature s moves.
Econ 221 Fall, 2018 Li, Hao UBC CHAPTER 3. GAMES WITH SEQUENTIAL MOVES Game trees. Sequential-move games with finite number of decision notes. Sequential-move games with Nature s moves. 1 Strategies in
More informationPh.D. Preliminary Examination MICROECONOMIC THEORY Applied Economics Graduate Program August 2017
Ph.D. Preliminary Examination MICROECONOMIC THEORY Applied Economics Graduate Program August 2017 The time limit for this exam is four hours. The exam has four sections. Each section includes two questions.
More informationFinancial Intermediation, Loanable Funds and The Real Sector
Financial Intermediation, Loanable Funds and The Real Sector Bengt Holmstrom and Jean Tirole April 3, 2017 Holmstrom and Tirole Financial Intermediation, Loanable Funds and The Real Sector April 3, 2017
More informationFinancial Economics Field Exam August 2011
Financial Economics Field Exam August 2011 There are two questions on the exam, representing Macroeconomic Finance (234A) and Corporate Finance (234C). Please answer both questions to the best of your
More informationFinancial Intermediation and the Supply of Liquidity
Financial Intermediation and the Supply of Liquidity Jonathan Kreamer University of Maryland, College Park November 11, 2012 1 / 27 Question Growing recognition of the importance of the financial sector.
More informationAuditing in the Presence of Outside Sources of Information
Journal of Accounting Research Vol. 39 No. 3 December 2001 Printed in U.S.A. Auditing in the Presence of Outside Sources of Information MARK BAGNOLI, MARK PENNO, AND SUSAN G. WATTS Received 29 December
More informationUniversity of Konstanz Department of Economics. Maria Breitwieser.
University of Konstanz Department of Economics Optimal Contracting with Reciprocal Agents in a Competitive Search Model Maria Breitwieser Working Paper Series 2015-16 http://www.wiwi.uni-konstanz.de/econdoc/working-paper-series/
More informationJEFF MACKIE-MASON. x is a random variable with prior distrib known to both principal and agent, and the distribution depends on agent effort e
BASE (SYMMETRIC INFORMATION) MODEL FOR CONTRACT THEORY JEFF MACKIE-MASON 1. Preliminaries Principal and agent enter a relationship. Assume: They have access to the same information (including agent effort)
More informationLecture 10 Game Plan. Hidden actions, moral hazard, and incentives. Hidden traits, adverse selection, and signaling/screening
Lecture 10 Game Plan Hidden actions, moral hazard, and incentives Hidden traits, adverse selection, and signaling/screening 1 Hidden Information A little knowledge is a dangerous thing. So is a lot. -
More informationFinancial markets in developing countries (rough notes, use only as guidance; more details provided in lecture) The role of the financial system
Financial markets in developing countries (rough notes, use only as guidance; more details provided in lecture) The role of the financial system matching savers and investors (otherwise each person needs
More informationCollective Moral Hazard, Maturity Mismatch, and Systemic Bailouts
Collective Moral Hazard, Maturity Mismatch, Systemic Bailouts Emmanuel Farhi Jean Tirole Web Appendix ProofofProposition5 Ex-post (date-1) welfare W (; )isgivenby Z β ( ) W (; 1 A ( n (β,a)) )= L()+ π
More informationMacroprudential Bank Capital Regulation in a Competitive Financial System
Macroprudential Bank Capital Regulation in a Competitive Financial System Milton Harris, Christian Opp, Marcus Opp Chicago, UPenn, University of California Fall 2015 H 2 O (Chicago, UPenn, UC) Macroprudential
More informationConcentrating on reason 1, we re back where we started with applied economics of information
Concentrating on reason 1, we re back where we started with applied economics of information Recap before continuing: The three(?) informational problems (rather 2+1 sources of problems) 1. hidden information
More informationEvaluating Strategic Forecasters. Rahul Deb with Mallesh Pai (Rice) and Maher Said (NYU Stern) Becker Friedman Theory Conference III July 22, 2017
Evaluating Strategic Forecasters Rahul Deb with Mallesh Pai (Rice) and Maher Said (NYU Stern) Becker Friedman Theory Conference III July 22, 2017 Motivation Forecasters are sought after in a variety of
More informationAdvanced Financial Economics 2 Financial Contracting
Advanced Financial Economics 2 Financial Contracting Prof. Dr. Roman Inderst Part 2 1 / 97 Corporate financing Debt-equity ratio Debt overhang Borrowing capacity Liquidity and risk management Signaling
More informationA Theory of the Size and Investment Duration of Venture Capital Funds
A Theory of the Size and Investment Duration of Venture Capital Funds Dawei Fang Centre for Finance, Gothenburg University Abstract: We take a portfolio approach, based on simple agency conflicts between
More informationAuctions in the wild: Bidding with securities. Abhay Aneja & Laura Boudreau PHDBA 279B 1/30/14
Auctions in the wild: Bidding with securities Abhay Aneja & Laura Boudreau PHDBA 279B 1/30/14 Structure of presentation Brief introduction to auction theory First- and second-price auctions Revenue Equivalence
More informationGathering Information before Signing a Contract: a New Perspective
Gathering Information before Signing a Contract: a New Perspective Olivier Compte and Philippe Jehiel November 2003 Abstract A principal has to choose among several agents to fulfill a task and then provide
More informationTopics in Contract Theory Lecture 6. Separation of Ownership and Control
Leonardo Felli 16 January, 2002 Topics in Contract Theory Lecture 6 Separation of Ownership and Control The definition of ownership considered is limited to an environment in which the whole ownership
More informationWe examine the impact of risk aversion on bidding behavior in first-price auctions.
Risk Aversion We examine the impact of risk aversion on bidding behavior in first-price auctions. Assume there is no entry fee or reserve. Note: Risk aversion does not affect bidding in SPA because there,
More informationEconS Games with Incomplete Information II and Auction Theory
EconS 424 - Games with Incomplete Information II and Auction Theory Félix Muñoz-García Washington State University fmunoz@wsu.edu April 28, 2014 Félix Muñoz-García (WSU) EconS 424 - Recitation 9 April
More informationProf. Bryan Caplan Econ 812
Prof. Bryan Caplan bcaplan@gmu.edu http://www.bcaplan.com Econ 812 Week 9: Asymmetric Information I. Moral Hazard A. In the real world, everyone is not equally in the dark. In every situation, some people
More informationMA300.2 Game Theory 2005, LSE
MA300.2 Game Theory 2005, LSE Answers to Problem Set 2 [1] (a) This is standard (we have even done it in class). The one-shot Cournot outputs can be computed to be A/3, while the payoff to each firm can
More informationMicroeconomic Theory II Preliminary Examination Solutions Exam date: June 5, 2017
Microeconomic Theory II Preliminary Examination Solutions Exam date: June 5, 07. (40 points) Consider a Cournot duopoly. The market price is given by q q, where q and q are the quantities of output produced
More informationIntroduction to Game Theory
Introduction to Game Theory Part 2. Dynamic games of complete information Chapter 1. Dynamic games of complete and perfect information Ciclo Profissional 2 o Semestre / 2011 Graduação em Ciências Econômicas
More informationDefinition of Incomplete Contracts
Definition of Incomplete Contracts Susheng Wang 1 2 nd edition 2 July 2016 This note defines incomplete contracts and explains simple contracts. Although widely used in practice, incomplete contracts have
More informationAuctions. Agenda. Definition. Syllabus: Mansfield, chapter 15 Jehle, chapter 9
Auctions Syllabus: Mansfield, chapter 15 Jehle, chapter 9 1 Agenda Types of auctions Bidding behavior Buyer s maximization problem Seller s maximization problem Introducing risk aversion Winner s curse
More informationUCLA Department of Economics Ph.D. Preliminary Exam Industrial Organization Field Exam (Spring 2010) Use SEPARATE booklets to answer each question
Wednesday, June 23 2010 Instructions: UCLA Department of Economics Ph.D. Preliminary Exam Industrial Organization Field Exam (Spring 2010) You have 4 hours for the exam. Answer any 5 out 6 questions. All
More informationAdvanced Financial Economics 2 Financial Contracting
Advanced Financial Economics 2 Financial Contracting Prof. Dr. Roman Inderst Part 3 1 / 49 Liquidity, Free Cash Flow, and Risk Management 2 / 49 Main Questions Why do some firms hold liquid assets and
More informationA Decentralized Learning Equilibrium
Paper to be presented at the DRUID Society Conference 2014, CBS, Copenhagen, June 16-18 A Decentralized Learning Equilibrium Andreas Blume University of Arizona Economics ablume@email.arizona.edu April
More informationECON106P: Pricing and Strategy
ECON106P: Pricing and Strategy Yangbo Song Economics Department, UCLA June 30, 2014 Yangbo Song UCLA June 30, 2014 1 / 31 Game theory Game theory is a methodology used to analyze strategic situations in
More informationProblem Set 2. Theory of Banking - Academic Year Maria Bachelet March 2, 2017
Problem Set Theory of Banking - Academic Year 06-7 Maria Bachelet maria.jua.bachelet@gmai.com March, 07 Exercise Consider an agency relationship in which the principal contracts the agent, whose effort
More informationNotes for Section: Week 7
Economics 160 Professor Steven Tadelis Stanford University Spring Quarter, 004 Notes for Section: Week 7 Notes prepared by Paul Riskind (pnr@stanford.edu). spot errors or have questions about these notes.
More informationTheories of the Firm. Dr. Margaret Meyer Nuffield College
Theories of the Firm Dr. Margaret Meyer Nuffield College 2015 Coase (1937) If the market is an efficient method of resource allocation, as argued by neoclassical economics, then why do so many transactions
More informationChapter 23: Choice under Risk
Chapter 23: Choice under Risk 23.1: Introduction We consider in this chapter optimal behaviour in conditions of risk. By this we mean that, when the individual takes a decision, he or she does not know
More informationAll questions are weighted equally, and each roman numeral is weighted equally within each question. log(q i ) pq i + w i, max. pq j c 2 q2 j.
All questions are weighted equally, and each roman numeral is weighted equally within each question. Good luck!. There are I buyers who take prices as given and each solve max q i log(q i ) pq i + w i,
More informationEconomics 101A (Lecture 25) Stefano DellaVigna
Economics 101A (Lecture 25) Stefano DellaVigna April 29, 2014 Outline 1. Hidden Action (Moral Hazard) II 2. The Takeover Game 3. Hidden Type (Adverse Selection) 4. Evidence of Hidden Type and Hidden Action
More information(1 p)(1 ε)+pε p(1 ε)+(1 p)ε. ε ((1 p)(1 ε) + pε). This is indeed the case since 1 ε > ε (in turn, since ε < 1/2). QED
July 2008 Philip Bond, David Musto, Bilge Yılmaz Supplement to Predatory mortgage lending The key assumption in our model is that the incumbent lender has an informational advantage over the borrower.
More informationAdverse Selection and Costly External Finance
Adverse Selection and Costly External Finance This section is based on Chapter 6 of Tirole. Investors have imperfect knowledge of the quality of a firm s collateral, etc. They are thus worried that they
More informationLocation, Productivity, and Trade
May 10, 2010 Motivation Outline Motivation - Trade and Location Major issue in trade: How does trade liberalization affect competition? Competition has more than one dimension price competition similarity
More informationAdvanced Risk Management
Winter 2015/2016 Advanced Risk Management Part I: Decision Theory and Risk Management Motives Lecture 4: Risk Management Motives Perfect financial markets Assumptions: no taxes no transaction costs no
More informationThe Credit Crunch. Macroeconomics IV. Ricardo J. Caballero. Spring 2011 MIT. R.J. Caballero (MIT) The Credit Crunch Spring / 16
The Credit Crunch Macroeconomics IV Ricardo J. Caballero MIT Spring 2011 R.J. Caballero (MIT) The Credit Crunch Spring 2011 1 / 16 References 1 2 Bernanke, B. and A. Blinder, Credit, Money and Aggregate
More informationProblem Set 3: Suggested Solutions
Microeconomics: Pricing 3E00 Fall 06. True or false: Problem Set 3: Suggested Solutions (a) Since a durable goods monopolist prices at the monopoly price in her last period of operation, the prices must
More informationADVERSE SELECTION PAPER 8: CREDIT AND MICROFINANCE. 1. Introduction
PAPER 8: CREDIT AND MICROFINANCE LECTURE 2 LECTURER: DR. KUMAR ANIKET Abstract. We explore adverse selection models in the microfinance literature. The traditional market failure of under and over investment
More informationThe Changing Role of Small Banks. in Small Business Lending
The Changing Role of Small Banks in Small Business Lending Lamont Black Micha l Kowalik January 2016 Abstract This paper studies how competition from large banks affects small banks lending to small businesses.
More informationAngels, Venture Capitalists, and Entrepreneurs: A Dynamic Model of Private Equity Financing
Angels, Venture Capitalists, and Entrepreneurs: A Dynamic Model of Private Equity Financing Thomas J Chemmanur* and Zhaohui Chen** Oct., 31, 2001 *Finance department, Carroll school of management, Boston
More informationLecture Note: Monitoring, Measurement and Risk. David H. Autor MIT , Fall 2003 November 13, 2003
Lecture Note: Monitoring, Measurement and Risk David H. Autor MIT 14.661, Fall 2003 November 13, 2003 1 1 Introduction So far, we have toyed with issues of contracting in our discussions of training (both
More informationProblem Set 3: Suggested Solutions
Microeconomics: Pricing 3E Fall 5. True or false: Problem Set 3: Suggested Solutions (a) Since a durable goods monopolist prices at the monopoly price in her last period of operation, the prices must be
More informationFinancial Crises, Dollarization and Lending of Last Resort in Open Economies
Financial Crises, Dollarization and Lending of Last Resort in Open Economies Luigi Bocola Stanford, Minneapolis Fed, and NBER Guido Lorenzoni Northwestern and NBER Restud Tour Reunion Conference May 2018
More informationDynamic games with incomplete information
Dynamic games with incomplete information Perfect Bayesian Equilibrium (PBE) We have now covered static and dynamic games of complete information and static games of incomplete information. The next step
More informationDETERMINANTS OF DEBT CAPACITY. 1st set of transparencies. Tunis, May Jean TIROLE
DETERMINANTS OF DEBT CAPACITY 1st set of transparencies Tunis, May 2005 Jean TIROLE I. INTRODUCTION Adam Smith (1776) - Berle-Means (1932) Agency problem Principal outsiders/investors/lenders Agent insiders/managers/entrepreneur
More informationCUR 412: Game Theory and its Applications, Lecture 12
CUR 412: Game Theory and its Applications, Lecture 12 Prof. Ronaldo CARPIO May 24, 2016 Announcements Homework #4 is due next week. Review of Last Lecture In extensive games with imperfect information,
More informationEffects of Wealth and Its Distribution on the Moral Hazard Problem
Effects of Wealth and Its Distribution on the Moral Hazard Problem Jin Yong Jung We analyze how the wealth of an agent and its distribution affect the profit of the principal by considering the simple
More informationZhiling Guo and Dan Ma
RESEARCH ARTICLE A MODEL OF COMPETITION BETWEEN PERPETUAL SOFTWARE AND SOFTWARE AS A SERVICE Zhiling Guo and Dan Ma School of Information Systems, Singapore Management University, 80 Stanford Road, Singapore
More informationRevenue Equivalence and Income Taxation
Journal of Economics and Finance Volume 24 Number 1 Spring 2000 Pages 56-63 Revenue Equivalence and Income Taxation Veronika Grimm and Ulrich Schmidt* Abstract This paper considers the classical independent
More informationMonetary Economics. Lecture 23a: inside and outside liquidity, part one. Chris Edmond. 2nd Semester 2014 (not examinable)
Monetary Economics Lecture 23a: inside and outside liquidity, part one Chris Edmond 2nd Semester 2014 (not examinable) 1 This lecture Main reading: Holmström and Tirole, Inside and outside liquidity, MIT
More informationOn the use of leverage caps in bank regulation
On the use of leverage caps in bank regulation Afrasiab Mirza Department of Economics University of Birmingham a.mirza@bham.ac.uk Frank Strobel Department of Economics University of Birmingham f.strobel@bham.ac.uk
More informationA Simple Model of Bank Employee Compensation
Federal Reserve Bank of Minneapolis Research Department A Simple Model of Bank Employee Compensation Christopher Phelan Working Paper 676 December 2009 Phelan: University of Minnesota and Federal Reserve
More informationInternational Trade Lecture 14: Firm Heterogeneity Theory (I) Melitz (2003)
14.581 International Trade Lecture 14: Firm Heterogeneity Theory (I) Melitz (2003) 14.581 Week 8 Spring 2013 14.581 (Week 8) Melitz (2003) Spring 2013 1 / 42 Firm-Level Heterogeneity and Trade What s wrong
More informationOptimal selling rules for repeated transactions.
Optimal selling rules for repeated transactions. Ilan Kremer and Andrzej Skrzypacz March 21, 2002 1 Introduction In many papers considering the sale of many objects in a sequence of auctions the seller
More informationPhD Course in Corporate Finance
Initial Public Offerings 1 Revised March 8, 2017 1 Professor of Corporate Finance, University of Mannheim; Homepage: http://http://cf.bwl.uni-mannheim.de/de/people/maug/, Tel: +49 (621) 181-1952, E-Mail:
More informationPrincipal-Agent Issues and Managerial Compensation
Principal-Agent Issues and Managerial Compensation 1 Information asymmetries Problems before a contract is written: Adverse selection i.e. trading partner cannot observe quality of the other partner Use
More informationLoss-leader pricing and upgrades
Loss-leader pricing and upgrades Younghwan In and Julian Wright This version: August 2013 Abstract A new theory of loss-leader pricing is provided in which firms advertise low below cost) prices for certain
More informationLiability, Insurance and the Incentive to Obtain Information About Risk. Vickie Bajtelsmit * Colorado State University
\ins\liab\liabinfo.v3d 12-05-08 Liability, Insurance and the Incentive to Obtain Information About Risk Vickie Bajtelsmit * Colorado State University Paul Thistle University of Nevada Las Vegas December
More informationTransactions with Hidden Action: Part 1. Dr. Margaret Meyer Nuffield College
Transactions with Hidden Action: Part 1 Dr. Margaret Meyer Nuffield College 2015 Transactions with hidden action A risk-neutral principal (P) delegates performance of a task to an agent (A) Key features
More informationInternational Trade: Lecture 3
International Trade: Lecture 3 Alexander Tarasov Higher School of Economics Fall 2016 Alexander Tarasov (Higher School of Economics) International Trade (Lecture 3) Fall 2016 1 / 36 The Krugman model (Krugman
More informationRent Shifting and the Order of Negotiations
Rent Shifting and the Order of Negotiations Leslie M. Marx Duke University Greg Shaffer University of Rochester December 2006 Abstract When two sellers negotiate terms of trade with a common buyer, the
More informationMicroeconomics II. CIDE, MsC Economics. List of Problems
Microeconomics II CIDE, MsC Economics List of Problems 1. There are three people, Amy (A), Bart (B) and Chris (C): A and B have hats. These three people are arranged in a room so that B can see everything
More information