Odious Debts or Odious Regimes

Odious regimes have always been there. That there is no silver-bullet solution that will prevent odious regimes from arising, or stymie them once they do, is evident from the plethora of responses employed by the international community once a regime\u27s odiousness becomes clear. Current odious debt doctrine dates back to a 1927 treatise by a wandering Russian academic named Alexander Sack. The Sack definition contemplates a debt-by-debt approach to questionable borrowing. If a loan is used to benefit the population--to build a highway or water-treatment plant, for instance--the obligation would be fully enforceable, no matter how pernicious the borrower regime. Here, Bolton and Skeel attempt to fill the vacuum: a regime is odious if it engages in either systematic suppression or systematic looting

Ownership and Managerial Competition: Employee, Customer, and Outside Ownership

This paper centers around the question of ownership of firms and managerial competition and how these affect managers and employees' incentives to invest in human capital. We argue that employees' incentives in human capital investment are affected by both ownership and competition since both ownership structure and competition provide bargaining chips to employees. Ownership provides protections which may improve or dull employees' incentives for human capital investment. When there is fierce market competition and no lock-in the allocation of ownership does not play a role (as one might expect), provided that human and physical assets are sufficiently complementary. If asset complementarity is low, ownership matters even in the absence of lock-in. In general, the most efficient ownership arrangement is that which maximizes managerial competition inside the firm.ownership structure, property rights theory, competition, managerial labor market, privatization

The Political Economy of Debt Moratoria, Bailouts and Bankruptcy

This paper develops a simple dynamic general equilibrium model of an agricultural economy, in which poor farmers borrow wheat from rich farmers to invest in their land. Since wheat output is stochastic (we allow for both idiosynchratic and aggregate shocks) there may be default ex-post. The main thrust of the paper is to compare equilibria in this economy with and without political intervention. This intervention is decided through majority voting and can take the form of a bailout or a moratorium. The results of our formal analysis are confronted with historial evidence from the Panic of 1819 in the U. S. With no aggregate uncertainty, the main results of the formal analysis are that allowing for debt moratoria and bailouts not only always improves ex-post efficiency but may improve ex-ante efficiency. Anticipated bailouts always occur in equilibrium and moratoria never occur, but the threat of moratoria enhances efficiency. With aggregate uncertainty, the differences between moratoria and bailouts may collapse, with both occurring only in bad times and improving ex-ante efficiency.

Optimal Property Rights in Financial Contracting

In this paper we propose a theory of optimal property rights in a financial contracting setting. Following recent contributions in the property law literature, we emphasize the distinction between contractual rights, that are only enforceable against the parties themselves, and property rights, that are also enforeceable against third parties outside the contract. Our analysis starts with the following question: which contractual agreements should the law allow parties to enforce as property rights? Our proposed answer to this question is shaped by the overall objective of minimizing due diligence (reading) costs and investment distortions that follow from the inability of third-party lenders to costlessly observe pre-existing rights in a borrower's property. Borrowers cannot reduce these costs without the law's help, due to an inability to commit to protecting third-parties from redistribution. We find that the law should take a more restrictive approach to enforcing rights against third-parties when these rights are i) more costly for third-parties to discover, ii) more likely to redistribute value from third-parties, and iii) less likely to increase efficiency. We find that these qualitative principles are often reflected in observed legal rules, including the enforceability of negative covenants; fraudulent conveyance; corporate veil-piercing; and limits on assignability.

Structuring and Restructuring Sovereign Debt: The Role of Seniority

In an environment characterized by weak contractual enforcement, sovereign lenders can enhance the likelihood of repayment by making their claims more difficult to restructure. We show within a simple model how competition for repayment between lenders may result in sovereign debt that is excessively difficult to restructure in equilibrium. Alleviating this inefficiency requires a sovereign debt restructuring mechanism that fulfills some of the functions of corporate bankruptcy regimes, in particular the enforcement of seniority and subordination clauses in debt contracts.

Should Derivatives be Privileged in Bankruptcy?

Derivative contracts, swaps, and repos enjoy "super-senior" status in bankruptcy: they are exempt from the automatic stay on debt and collateral collection that applies to virtually all other claims. We propose a simple corporate finance model to assess the effect of this exemption on firms' cost of borrowing and incentives to engage in swaps and derivatives transactions. Our model shows that while derivatives are value-enhancing risk management tools, super-seniority for derivatives can lead to inefficiencies: collateralization and effective seniority of derivatives shifts credit risk to the firm's creditors, even though this risk could be borne more efficiently by derivative counterparties. In addition, because super-senior derivatives dilute existing creditors, they may lead firms to take on derivative positions that are too large from a social perspective. Hence, derivatives markets may grow inefficiently large in equilibrium.

Corporate finance and the monetary transmission mechanism

This paper analyzes the transmission mechanisms of monetary policy in a general equilibrium model of securities markets and banking with asymmetric information. Banks' optimal asset/liability policy is such that in equilibrium capital adequacy constraints are always binding. Asymmetric information about banks' net worth adds a cost to outside equity capital, which limits the extent to which banks can relax their capital constraint. In this context monetary policy does not affect bank lending through changes in bank liquidity. Rather, it has the effect of changing the aggregate composition of financing by firms. The model also produces multiple equilibria, one of which displays all the features of a "credit crunch". Thus, monetary policy can also have large effects when it induces a shift from one equilibrium to the other.Asymmetric information, liabilities structure, capital regulation, monetary policy, transmission mechanism

The Dynamics of Optimal Risk Sharing

We study a dynamic-contracting problem involving risk sharing between two parties – the Proposer and the Responder – who invest in a risky asset until an exogenous but random termination time. In any time period they must invest all their wealth in the risky asset, but they can share the underlying investment and termination risk. When the project ends they consume their final accumulated wealth. The Proposer and the Responder have constant relative risk aversion R and r respectively, with R > r > 0. We show that the optimal contract has three components: a non-contingent flow payment, a share in investment risk and a termination payment. We derive approximations for the optimal share in investment risk and the optimal termination payment, and we use numerical simulations to show that these approximations offer a close fit to the exact rules. The approximations take the form of a myopic benchmark plus a dynamic correction. In the case of the approximation for the optimal share in investment risk, the myopic benchmark is simply the classical formula for optimal risk sharing. This benchmark is endogenous because it depends on the wealths of the two parties. The dynamic correction is driven by counterparty risk. If both parties are fairly risk tolerant, in the sense that 2 > R > r, then the Proposer takes on more risk than she would under the myopic benchmark. If both parties are fairly risk averse, in the sense that R > r > 2, then the Proposer takes on less risk than she would under the myopic benchmark. In the mixed case, in which R > 2 > r, the Proposer takes on more risk when the Responder’s share in total wealth is low and less risk when the Responder’s share in total wealth is high. In the case of the approximation for the optimal termination payment, the myopic benchmark is zero. The dynamic correction tells us, among other things, that: (i) if the asset has a high return then, following termination, the Responder compensates the Proposer for the loss of a valuable investment opportunity; and (ii) if the asset has a low return then, prior to termination, the Responder compensates the Proposer for the low returns obtained. Finally, we exploit our representation of the optimal contract to derive simple and easily interpretable sufficient conditions for the existence of an optimal contract.

Thinking Ahead: The Decision Problem

We propose a model of bounded rationality based on time-costs of deliberating current and future decisions. We model an individual decision maker%u2019s thinking process as a thought-experiment that takes time and let the decision maker %u201Cthink ahead%u201D about future decision problems in yet unrealized states of nature. By formulating an intertemporal, state-contingent, planning problem, which may involve costly deliberation in every state of nature, and by letting the decision-maker deliberate ahead of the realization of a state, we attempt to capture the basic idea that individuals generally do not think through a complete action-plan. Instead, individuals prioritize their thinking and leave deliberations on less important decisions to the time or event when they arise.