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Imperfect competition in financial markets and capital structure

  • Guriev, Sergei
  • Kvasov, Dmitriy

We consider a model of corporate finance with imperfectly competitive financial intermediaries. Firms can finance projects either via debt or via equity. Because of asymmetric information about firms' growth opportunities, equity financing involves a dilution cost. Nevertheless, equity emerges in equilibrium whenever financial intermediaries have sufficient market power. In the latter case, best firms issue debt while the less profitable firms are equity-financed. We also show that strategic interaction between oligopolistic intermediaries results in multiple equilibria. If one intermediary chooses to buy more debt, the price of debt decreases, so the best equity-issuing firms switch from equity to debt financing. This in turn decreases average quality of equity-financed pool, so other intermediaries also shift towards more debt.

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Article provided by Elsevier in its journal Journal of Economic Behavior & Organization.

Volume (Year): 72 (2009)
Issue (Month): 1 (October)
Pages: 131-146

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Handle: RePEc:eee:jeborg:v:72:y:2009:i:1:p:131-146
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