Optimal Money Burning: Theory and Application to Corporate Dividend Policy

46 Pages Posted: 21 Oct 1996 Last revised: 3 Oct 2010

See all articles by B. Douglas Bernheim

B. Douglas Bernheim

Stanford University - Department of Economics; National Bureau of Economic Research (NBER)

Lee Redding

University of Michigan at Dearborn - Department of Accounting and Finance

Date Written: July 1996

Abstract

We explore signaling behavior in settings with a discriminating signal and several costly nondiscriminating ( money burning ) activities. In settings where informed parties have many options for burning money, existing theory provides no basis for selecting one nondiscriminating activity over another. When senders have private information about the costs of these activities, each sender's indifference is resolved, the taxation of a nondiscriminating signal is Pareto improving, and the use of the taxed activity becomes more widespread as the tax rate rises. We apply this analysis to the theory of dividend signaling. The central testable implication of the model is verified empirically.

Suggested Citation

Bernheim, B. Douglas and Redding, Lee, Optimal Money Burning: Theory and Application to Corporate Dividend Policy (July 1996). NBER Working Paper No. w5682. Available at SSRN: https://ssrn.com/abstract=1318

B. Douglas Bernheim (Contact Author)

Stanford University - Department of Economics ( email )

Landau Economics Building
579 Serra Mall
Stanford, CA 94305-6072
United States
650-725-8732 (Phone)
650-725-5702 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Lee Redding

University of Michigan at Dearborn - Department of Accounting and Finance ( email )

Dearborn, MI 48128-1491
United States
313-593-4680 (Phone)
313-593-5636 (Fax)

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