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A Noncooperative Approach to Bankruptcy Problems with an Endogenous Estate

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  • Karagozoglu Emin

    (METEOR)

Abstract

We introduce a new class of bankruptcy problems in which the value of the estate is endogenous and depends on agents'' investment decisions. There are two investment alternatives: investing in a company and becoming a shareholder (risky asset) and depositing money into a bank (risk-free asset). Bankruptcy is a possible event only for the risky asset. We define a game between agents each of which aims to maximize his expected payoff by choosing an investment alternative and a company management which aims to maximize the investment in the company by choosing a bankruptcy rule. There are two types of agents in our model, who are differentiated by their incomes. We, first, consider three well-known bankruptcy rules: the proportional rule, the constrained equal awards rule and the constrained equal losses rule. We show that there always exists a pure strategy subgame perfect Nash equilibrium, which involves the proportional rule. This result is independent of the income distribution in the economy and holds even under one-sided uncertainty on the income distribution. We also show that our results can be extended to a larger set of rules containing the Talmud rule along with other rules that belong to the TAL-family. Our results provide, at least, a partial explanation from a strategic point of view for the popular use of the proportional rule in allocating bankrupt companies'' assets to shareholders.

Suggested Citation

  • Karagozoglu Emin, 2008. "A Noncooperative Approach to Bankruptcy Problems with an Endogenous Estate," Research Memorandum 031, Maastricht University, Maastricht Research School of Economics of Technology and Organization (METEOR).
  • Handle: RePEc:unm:umamet:2008031
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    Cited by:

    1. Cappelen, Alexander W. & Luttens, Roland I. & Sørensen, Erik Ø. & Tungodden, Bertil, 2015. "Fairness in bankruptcy situations: an experimental study," Discussion Paper Series in Economics 17/2015, Norwegian School of Economics, Department of Economics.
    2. Karagozoglu Emin, 2008. "Distributive Concerns in the Bankruptcy Problem with an Endogenous Estate," Research Memorandum 032, Maastricht University, Maastricht Research School of Economics of Technology and Organization (METEOR).

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