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State Owned Firms: Private Debt, Cost Revelation and Welfare

  • Pierre M. Picard

    ()

    (CREA, University of Luxembourg and CORE, Universit é Catholique de Louvain)

  • Ridwan D. Rusli

    ()

    (CREA, University of Luxembourg)

In this paper we study the role of private debt financing in disciplining a state owned firm operating for a government that incurs a cost of public financing. We show that debt contracts allow the government to avoid socially costly subsidies by letting unprofitable state- owned firms default. Debt is never used when the firm and government share the same information about the firm. By contrast, when the state-owned firm has private information, the government has an incentive to use debt to reduce the firm's information rents. We identify the conditions under which a positive debt level benefits governments. They depend on the cost of public funds, the interbank funding rate, the share of foreign investors, the level and uncertainty of the firm's cost.

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File URL: http://wwwfr.uni.lu/content/download/57174/676713/file/2012-10%20-%20State%20Owned%20Firms%20-%20Private%20Debt,%20Cost%20Revelation%20and%20Welfare.pdf
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Paper provided by Center for Research in Economic Analysis, University of Luxembourg in its series CREA Discussion Paper Series with number 12-10.

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Date of creation: 2012
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Handle: RePEc:luc:wpaper:12-10
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