This paper analyzes the dynamics of firms' credit ratings, in the context of a multi-period moral hazard problem, in which borrowers have incentives to repudiate their debt obligations. Borrowers with short credit histories face the poorest incentives, and (depending on initial conditions) for these borrowers debt repayment can only be enforced by the threat of liquidation. However, over time if borrowers repay debt on all dates, they will establish a good credit history. This may improve their incentives, such that they will repay debt because they are concerned about their reputations for being a good credit risk, even if they face no threat of liquidation if they do default. The model generates predictions which explain two stylized observations on the dynamics of firms' credit ratings.
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Paper provided by University of Exeter, School of Business and Economics in its series Discussion Papers with number
00/19.
Length: 30 pages Date of creation: 2000 Date of revision: Handle: RePEc:fth:exetec:00/19
Contact details of provider: Postal: School of Business and Economics University of Exeter Streatham Court Rennes Drive Exeter EX4 4PU Phone: (01392) 263218 Fax: (01392) 263242 Web page: http://www.exeter.ac.uk/sobe/ More information through EDIRC
Find related papers by JEL classification: D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information G19 - Financial Economics - - General Financial Markets - - - Other
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