Multiple Lenders, Strategic Default and the Role of Debt Covenants

Attar, Andrea, Casamatta, Catherine, Chassagnon, Arnold and Décamps, Jean-Paul (2010) Multiple Lenders, Strategic Default and the Role of Debt Covenants. , Toulouse

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Official URL: http://tse-fr.eu/pub/23437

Abstract

We study capital markets subject to moral hazard when investors cannot prevent side trading, thereby facing an externality if firms raise funds from multiple sources. We analyze whether investors’ ability to design financial covenants that may include exclusivity clauses mitigates this externality. Following covenant violations, investors can accelerate the repayment of their loan, adjust its size, or increase interest rates. Enlarging contracting opportunities generates a severe market failure: with covenants, equilibria are indeterminate and Pareto ranked. We show that an investors-financed subsidy scheme to entrepreneurs alleviates the incentive to overborrow and sustains the competitive allocation as the unique equilibrium one.

Item Type: Monograph (Working Paper)
Language: English
Date: October 2010
Place of Publication: Toulouse
Uncontrolled Keywords: Side Trading, Financial Covenants, Nonexclusive Competition, Strategic Default
JEL codes: D43 - Oligopoly and Other Forms of Market Imperfection
D82 - Asymmetric and Private Information
G33 - Bankruptcy; Liquidation
Subjects: B- ECONOMIE ET FINANCE
Divisions: TSE-R (Toulouse), TSM Research (Toulouse)
Institution: Université Toulouse 1 Capitole
Site: UT1
Date Deposited: 05 Nov 2015 15:13
Last Modified: 15 May 2019 10:14
OAI ID: oai:tse-fr.eu:23437
URI: http://publications.ut-capitole.fr/id/eprint/18577

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