We analyse dynamic financial contracting under moral hazard. The ability to rely on future rewards relaxes the tension between incentive and participation constraints, relative to the static case. Managers are incited by the promise of future payments after several successes and the threat of liquidation after several failures. The more severe the moral hazard problem, the greater the liquidation risk. The optimal contract can be implemented by holding cash reserves and by issuing debt and equity. The firm is liquidated when it runs out of cash. Dividends are paid only when accumulated earnings reach a certain threshold. In the continuous time limit of the model, stocks follow a diffusion process, with a stochastic volatility that increases after price drops. In line with empirical findings, performance shocks induce long lasting changes in leverage.
Download Info
To download:
If you experience problems downloading a file, check if you have the
proper application to
view it first. Information about this may be contained
in the File-Format links below. In case of further problems read
the IDEAS help
page. Note that these files are not on the IDEAS
site. Please be patient as the files may be large.
As the access to this document is restricted, you may want to look for a different version under "Related research" (further below) or search for a different version of it.
Publisher Info
Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number
4753.
Guillaume Plantin & Bruno Biais & Thomas Mariotti & Jean-Charles Rochet, 2004.
"Dynamic Security Design,"
GSIA Working Papers
2005-E5, Carnegie Mellon University, Tepper School of Business.
[Downloadable!]
Find related papers by JEL classification: D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information G12 - Financial Economics - - General Financial Markets - - - Asset Pricing G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Capital and Ownership Structure G35 - Financial Economics - - Corporate Finance and Governance - - - Payout Policy
This paper has been announced in the following NEP Reports:
Cited by: (explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)