A reconsideration of the Jensen-Meckling model of outside finance
AbstractThe paper studies outside finance in a model of two-dimensional moral hazard, involving risk choices as well as effort choices. If the entrepreneur has insufficient funds, a first-best outcome cannot be implemented. Second-best outcomes involve greater failure risk than first-best outcomes. For a Cobb-Douglas technology, second-best effort and investment levels are smaller than first-best; for other technologies, the comparison depends on the elasticity of substitution. If firm returns are not too noisy as signals of behaviour, the optimal incentive scheme corresponds to some mix of debt and equity finance. If firm returns are too noisy, this interpretation is not available.
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Bibliographic InfoArticle provided by Elsevier in its journal Journal of Financial Intermediation.
Volume (Year): 18 (2009)
Issue (Month): 4 (October)
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Web page: http://www.elsevier.com/locate/inca/622875
Financial contracting Debt finance Equity finance Moral hazard Risk choices;
Other versions of this item:
- Martin Hellwig, 2007. "A Reconsideration of the Jensen-Meckling Model of Outside Finance," Working Paper Series of the Max Planck Institute for Research on Collective Goods 2007_8, Max Planck Institute for Research on Collective Goods.
- D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law
- G30 - Financial Economics - - Corporate Finance and Governance - - - General
- G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
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