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Internal versus External Capital Markets

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  • Gertner, Robert H
  • Scharfstein, David S
  • Stein, Jeremy C

Abstract

This paper presents a framework for analyzing the costs and benefits of internal versus external capital allocation. The authors focus primarily on comparing an internal capital market with bank lending. While both represent centralized forms of financing, in the former case the financing is owner-provided, while in the latter case it is not. The authors argue that the ownership aspect of internal capital allocation has three important consequences: (1) it leads to more monitoring than bank lending; (2) it reduces managers' entrepreneurial incentives; and (3) it makes it easier to efficiently redeploy the assets of projects that are performing poorly under existing management. Copyright 1994, the President and Fellows of Harvard College and the Massachusetts Institute of Technology.

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Bibliographic Info

Article provided by MIT Press in its journal Quarterly Journal of Economics.

Volume (Year): 109 (1994)
Issue (Month): 4 (November)
Pages: 1211-30

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Handle: RePEc:tpr:qjecon:v:109:y:1994:i:4:p:1211-30

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  1. Hart, Oliver & Moore, John, 1990. "Property Rights and the Nature of the Firm," Journal of Political Economy, University of Chicago Press, vol. 98(6), pages 1119-58, December.
  2. Oliver Hart & John Moore, 1997. "Default and Renegotiation: A Dynamic Model of Debt," Harvard Institute of Economic Research Working Papers 1792, Harvard - Institute of Economic Research.
  3. Paul Asquith & Robert Gertner & David Scharfstein, 1991. "Anatomy of Financial Distress: An Examination of Junk-Bond Issuers," NBER Working Papers 3942, National Bureau of Economic Research, Inc.
  4. Grossman, Sanford J. & Hart, Oliver D., 1986. "The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration," Scholarly Articles 3450060, Harvard University Department of Economics.
  5. Patrick Bolton & David S Scharfstein, 1993. "Optimal Debt Structure with Multiple Creditors," CEPR Financial Markets Paper 0032, European Science Foundation Network in Financial Markets, c/o C.E.P.R, 77 Bastwick Street, London EC1V 3PZ.
  6. Bolton, Patrick & Scharfstein, David S, 1990. "A Theory of Predation Based on Agency Problems in Financial Contracting," American Economic Review, American Economic Association, vol. 80(1), pages 93-106, March.
  7. Shleifer, Andrei & Vishny, Robert W, 1992. " Liquidation Values and Debt Capacity: A Market Equilibrium Approach," Journal of Finance, American Finance Association, vol. 47(4), pages 1343-66, September.
  8. Diamond, Douglas W, 1984. "Financial Intermediation and Delegated Monitoring," Review of Economic Studies, Wiley Blackwell, vol. 51(3), pages 393-414, July.
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