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A Theory of Financing Constraints and Firm Dynamics

There is widespread evidence supporting the conjecture that borrowing constraints have important implications for firm growth and survival. In this paper we model a multi-period borrowing/lending relationship with asymmetric information. We show that borrowing constraints emerge as a feature of the optimal long-term lending contract, and that such constraints relax as the value of the borrower's claim to future cash-flows increases. We also show that the optimal contract has interesting implications for firm dynamics. In agreement with the empirical evidence, as age and size increase, mean and variance of growth decrease, firm survival increases, and the sensitivity of investment to cash-flows declines.

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File URL: http://rcer.econ.rochester.edu/RCERPAPERS/rcer_492.pdf
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Paper provided by University of Rochester - Center for Economic Research (RCER) in its series RCER Working Papers with number 492.

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Length: 35 pages
Date of creation: Jun 2002
Date of revision:
Handle: RePEc:roc:rocher:492
Contact details of provider: Postal: University of Rochester, Center for Economic Research, Department of Economics, Harkness 231 Rochester, New York 14627 U.S.A.

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  1. Timothy Dunne & Mark J. Roberts & Larry Samuelson, 1988. "Patterns of Firm Entry and Exit in U.S. Manufacturing Industries," RAND Journal of Economics, The RAND Corporation, vol. 19(4), pages 495-515, Winter.
  2. Andrew Atkeson, 2010. "International lending with moral hazard and risk of repudiation," Levine's Working Paper Archive 200, David K. Levine.
  3. Bolton, Patrick & Scharfstein, David S, 1990. "A Theory of Predation Based on Agency Problems in Financial Contracting," American Economic Review, American Economic Association, vol. 80(1), pages 93-106, March.
  4. Allan Timmermann & Gabriel Perez-Quiros, 1999. "Firm Size and Cyclical Variations in Stock Returns," FMG Discussion Papers dp335, Financial Markets Group.
  5. Rogerson, William P, 1985. "Repeated Moral Hazard," Econometrica, Econometric Society, vol. 53(1), pages 69-76, January.
  6. repec:cup:cbooks:9780521633574 is not listed on IDEAS
  7. Troske, Kenneth R, 1996. "The Dynamic Adjustment Process of Firm Entry and Exit in Manufacturing and Finance, Insurance, and Real Estate," Journal of Law and Economics, University of Chicago Press, vol. 39(2), pages 705-35, October.
  8. Rui Albuquerque & Hugo Hopenhayn, 2002. "Optimal Lending Contracts and Firm Dynamics," RCER Working Papers 493, University of Rochester - Center for Economic Research (RCER).
  9. Albert Marcet & Ramon Marimon, 1991. "Communication, commitment and growth," Economics Working Papers 1, Department of Economics and Business, Universitat Pompeu Fabra.
  10. Gilchrist, Simon & Himmelberg, Charles P., 1995. "Evidence on the role of cash flow for investment," Journal of Monetary Economics, Elsevier, vol. 36(3), pages 541-572, December.
  11. Spear, Stephen E & Srivastava, Sanjay, 1987. "On Repeated Moral Hazard with Discounting," Review of Economic Studies, Wiley Blackwell, vol. 54(4), pages 599-617, October.
  12. Dunne, T. & Roberts, M.J. & Samuelson, L., 1988. "The Growth And Failure Of U.S. Manufacturing Plants," Papers 1-87-5, Pennsylvania State - Department of Economics.
  13. Hall, Bronwyn H, 1987. "The Relationship between Firm Size and Firm Growth in the U.S. Manufacturing Sector," Journal of Industrial Economics, Wiley Blackwell, vol. 35(4), pages 583-606, June.
  14. Thomas Cooley & Ramon Marimon & Vincenzo Quadrini, 2003. "Aggregate Consequences of Limited Contract Enforceability," NBER Working Papers 10132, National Bureau of Economic Research, Inc.
  15. Audretsch, David B, 1991. "New-Firm Survival and the Technological Regime," The Review of Economics and Statistics, MIT Press, vol. 73(3), pages 441-50, August.
  16. Steven Fazzari & R. Glenn Hubbard & Bruce C. Petersen, 1987. "Financing Constraints and Corporate Investment," NBER Working Papers 2387, National Bureau of Economic Research, Inc.
  17. Gertler, Mark, 1992. "Financial Capacity and Output Fluctuations in an Economy with Multi-period Financial Relationships," Review of Economic Studies, Wiley Blackwell, vol. 59(3), pages 455-72, July.
  18. Peter M. DeMarzo & Michael J. Fishman, 2007. "Optimal Long-Term Financial Contracting," Review of Financial Studies, Society for Financial Studies, vol. 20(6), pages 2079-2128, November.
  19. Andrew Atkeson & Robert E Lucas, 2010. "On Efficient Distribution with Private Information," Levine's Working Paper Archive 2179, David K. Levine.
  20. repec:cup:cbooks:9780521465618 is not listed on IDEAS
  21. Bernanke, Ben & Gertler, Mark, 1989. "Agency Costs, Net Worth, and Business Fluctuations," American Economic Review, American Economic Association, vol. 79(1), pages 14-31, March.
  22. Jovanovic, Boyan, 1982. "Selection and the Evolution of Industry," Econometrica, Econometric Society, vol. 50(3), pages 649-70, May.
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