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Debt Overhang and Lack of Lender's Commitment

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  • KEIICHIRO KOBAYASHI
  • TOMOYUKI NAKAJIMA
  • SHUHEI TAKAHASHI

Abstract

The debt overhang of sovereigns or firms is modeled in the recent literature as a constrained efficient outcome of dynamic debt contracts under the lack of the borrower's commitment, where debt relief is not Pareto‐improving. The early literature observes another type of debt overhang where the borrower is discouraged from expending effort, anticipating the lender to take all output ex post. We show that this inefficiency is due to the lack of the lender's commitment and debt relief is Pareto‐improving. Nevertheless, debt overhang may persist, as frictional bargaining over debt relief can take a long time.

Suggested Citation

  • Keiichiro Kobayashi & Tomoyuki Nakajima & Shuhei Takahashi, 2023. "Debt Overhang and Lack of Lender's Commitment," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 55(8), pages 2153-2185, December.
    • Handle: RePEc:wly:jmoncb:v:55:y:2023:i:8:p:2153-2185
    DOI: 10.1111/jmcb.12969
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