New publications in the Journal of Financial Economics
Prof. Erwan Morellec published 2 new articles in the Journal of Financial Economics in June and July 2020.
Agency conflicts and short- versus long-termism in corporate policies
We build a dynamic agency model in which the agent controls both current earnings via short-term investment and firm growth via long-term investment. Under the optimal contract, agency conflicts can induce short- and long-term investment levels beyond first best, leading to short- or long-termism in corporate policies. The paper analytically shows how firm characteristics shape the optimal contract and the horizon of corporate policies, thereby generating a number of novel empirical predictions on the optimality of short- versus long-termism. It also demonstrates that combining short- and long-term agency conflicts naturally leads to asymmetric pay-for-performance in managerial contracts.
Short-term debt and incentives for risk-takingAbstract
We challenge the view that short-term debt curbs moral hazard and demonstrate that, in a world with financing frictions and fair debt pricing, short-term debt generates incentives for risk-taking. To do so, we develop a model in which firms are financed with equity and short-term debt and cannot freely optimize their default decision because of financing frictions. We show that when firms are close to distress, the dynamic interaction of operating and rollover losses fuels default risk. In such instances, shareholders find it optimal to increase asset risk to improve interim debt repricing and prevent inefficient liquidation. These risk-taking incentives do not arise when debt maturity is sufficiently long.