The Library
Optimal leverage and strategic disclosure
Tools
Trigilia, Giulio (2016) Optimal leverage and strategic disclosure. Working Paper. Coventry: Department of Economics, University of Warwick. Warwick Economics Research Paper Series (WERPS) (1111). (Unpublished)
PDF
WRAP_8779629-ec-211016-twerp_1111_trigilia.pdf - Other - Requires a PDF viewer. Download (1268Kb) |
Abstract
Firms seeking external financing jointly choose what securities to issue, and the extent of their disclosure commitments. The literature shows that enhanced disclosure reduces the cost of financing. This paper analyses how disclosure affects the optimal composition of financing means. It considers a market where firms compete for external financing under costly-state-verification, but, in contrast to the standard model: (i) the degree of asymmetric information between firms and outside investors is variable, and (ii) firms can affect it through a disclosure policy, modeled as a verifiable signal with a cost decreasing in its noise component. Two central predictions emerge. On the positive side, optimal disclosure and leverage are negatively correlated. Efficient equity financing requires that firms are sufficiently transparent, whereas debt does not; it solely relies on the threat of bankruptcy and liquidation. Therefore, more transparent firms issue cheaper equity and face a higher opportunity cost of leveraged external financing. The prediction is shown to be consistent with the behavior of US corporations since the 1980s. On the normative side, disclosure externalities and time inconsistencies lead to under-disclosure and excessive leverage relative to the constrained best. If mandatory disclosures are feasible – that is, they cannot be easily dodged – they increase welfare. Otherwise, endogenously higher transparency can be triggered if regulators set capital requirements. Capital regulation proves especially useful when (i) firm performances are highly correlated, and (ii) disclosure requirements can be easily dodged – conditions that seem to apply to large financial firms. The view of capital standards as a means to improve the information environment is novel in the literature; its policy implications and challenges are discussed.
Item Type: | Working or Discussion Paper (Working Paper) | ||||
---|---|---|---|---|---|
Subjects: | H Social Sciences > HG Finance | ||||
Divisions: | Faculty of Social Sciences > Economics | ||||
Library of Congress Subject Headings (LCSH): | Securities -- United States -- 21st century -- Mathematical models, Corporations -- Finance | ||||
Series Name: | Warwick Economics Research Paper Series (WERPS) | ||||
Publisher: | Department of Economics, University of Warwick | ||||
Place of Publication: | Coventry | ||||
ISSN: | 0083-7350 | ||||
Official Date: | February 2016 | ||||
Dates: |
|
||||
Number: | 1111 | ||||
Number of Pages: | 49 | ||||
Status: | Not Peer Reviewed | ||||
Publication Status: | Unpublished | ||||
Access rights to Published version: | Open Access (Creative Commons) | ||||
Funder: | Royal Economic Society (Great Britain) (RES) | ||||
Version or Related Resource: | This paper also appears as CRETA Discussion Paper No: 18 | ||||
Related URLs: |
Request changes or add full text files to a record
Repository staff actions (login required)
View Item |
Downloads
Downloads per month over past year