Risky Investments with Limited Commitment

43 Pages Posted: 7 Nov 2013

See all articles by Thomas F. Cooley

Thomas F. Cooley

New York University - Leonard N. Stern School of Business; National Bureau of Economic Research (NBER)

Ramon Marimon

European University Institute

Vincenzo Quadrini

University of Southern California - Marshall School of Business - Finance and Business Economics Department; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)

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Date Written: November 2013

Abstract

Over the last three decades there has been a dramatic increase in the size of the financial sector and in the compensation of financial executives. This increase has been associated with greater risk-taking and the use of more complex financial instruments. Parallel to this trend, the organizational structure of the financial sector has changed with the traditional partnership replaced by public companies. The organizational change has increased the competition for managerial talent, which may have weakened the commitment between investors and managers. We show how increased competition and the weaker commitment can raise the managerial incentives to undertake risky investment. In the general equilibrium, this change results in higher risk-taking, a larger and more productive financial sector with greater income inequality (within and across sectors), and a lower market valuation of financial institutions.

Suggested Citation

Cooley, Thomas F. and Marimon, Ramon and Quadrini, Vincenzo, Risky Investments with Limited Commitment (November 2013). NYU Working Paper No. 2451/31997. Available at SSRN: https://ssrn.com/abstract=2351172

Thomas F. Cooley (Contact Author)

New York University - Leonard N. Stern School of Business ( email )

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Ramon Marimon

European University Institute ( email )

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Vincenzo Quadrini

University of Southern California - Marshall School of Business - Finance and Business Economics Department ( email )

Marshall School of Business
Los Angeles, CA 90089
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Centre for Economic Policy Research (CEPR)

London
United Kingdom

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