Title:
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Optimal debt maturity and firm investment
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Author:
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Juggler, Joachim; Schott, Immo
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Abstract:
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This paper introduces a maturity choice to the standard model of firm financing and investment. Longterm debt renders the optimal firm policy time-inconsistent. Lack of commitment gives rise to debt dilution. This problem becomes more severe during downturns. We show that cyclical debt dilution generates the observed counter-cyclical behavior of default, bond spreads, leverage, and debt maturity. It also generates the pro-cyclical term structure of corporate bond spreads. Debt dilution renders the equilibrium outcome constrained-inefficient: credit spreads are too high and investment is too low. In two policy experiments we find the following: (1) an outright ban of long-term debt improves welfare in our model economy, and (2.) debt dilution accounts for 84% of the credit spread and 25% of the welfare gap with respect to the first best allocation. |
Abstract:
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The ADEMU Working Paper Series is being supported by the European Commission Horizon 2020 European Union funding for Research & Innovation, grant agreement No 649396. |
Subject(s):
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-Firm financing -Investment -Debt maturity -Credit spreads -Debt dilution |
Rights:
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open access
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https://creativecommons.org/licenses/by/4.0/ |
Document type:
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Working paper |
Published by:
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Share:
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Uri:
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https://ddd.uab.cat/record/196743
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