Information Acquisition and Corporate Debt Illiquidity
2016 American Economic Association Meeting
53 Pages Posted: 1 Nov 2014 Last revised: 20 Mar 2018
Date Written: March 10, 2018
Models based on asymmetric information predict that debt is least sensitive to private information and cannot explain the illiquidity of corporate debt in secondary markets. We analyze security design with moral hazard and offer a new explanation. First, the optimal compensation contract creates incentives for the manager to engage in risk-shifting, making her interests congruent with those of shareholders. Second, because debtholders are negatively affected by risky investment, they have an incentive to acquire information and discipline the manager. Debtholders' information acquisition solves the moral hazard problem, but makes debt less liquid than equity. Debt illiquidity covaries with credit risk.
Keywords: Security design, information acquisition, corporate governance, securitization
JEL Classification: D82, G32, D86
Suggested Citation: Suggested Citation