We study innovative industries subject to two risks. First, it is uncertain whether the innovation is strong or fragile. Second, it is difficult to monitor managers, which creates moral hazard and agency rents. As time goes by and profits are observed, beliefs about the industry are updated. As long as no default occurs, confidence builds up. Initially this spurs growth. But increasingly confident managers end up requesting large rents, curbing the growth of the industry. If rents become too high, investors give up on incentives, and failure rates rise. If the innovation is fragile, eventually there is a crisis. Our model captures stylized facts of the recent financial innovation wave and generates new implications for risks, returns and rents.
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 Financial Markets Group in its series FMG Discussion Papers with number
dp632.