Citation

Discussion Paper Details

Please find the details for DP12588 in an easy to copy and paste format below:

Full Details   |   Bibliographic Reference

Full Details

Title: Optimal Short-Termism

Author(s): Dirk Hackbarth, Alejandro Rivera and Tak-Yuen Wong

Publication Date: January 2018

Keyword(s): Capital Structure, Contracting and Multi-tasking

Programme Area(s): Financial Economics

Abstract: This paper studies incentives in a dynamic contracting framework of a levered firm. In particular, the manager selects long-term and short-term efforts, while shareholders choose initially optimal leverage and ex-post optimal default policies. There are three results. First, shareholders trade off the benefits of short-termism (current cash flows) against the benefits of higher growth from long-term effort (future cash flows), but because shareholders only split the latter with bondholders, they find short-termism ex-post optimal. Second, bright (grim) growth prospects imply lower (higher) optimal levels of short-termism. Third, the endogenous default threshold rises with the substitutability of tasks and, for a positive correlation of shocks, the endogenous default threshold is hump-shaped in the volatility of permanent shocks, but increases monotonically with the volatility of transitory shocks. Finally, we quantify agency costs of short-term and long-term effort, cost of short-termism, effects of investor time horizons, credit spreads, and risk-shifting.

For full details and related downloads, please visit: https://cepr.org/active/publications/discussion_papers/dp.php?dpno=12588

Bibliographic Reference

Hackbarth, D, Rivera, A and Wong, T. 2018. 'Optimal Short-Termism'. London, Centre for Economic Policy Research. https://cepr.org/active/publications/discussion_papers/dp.php?dpno=12588