Costly Inspection and Money Burning in Internal Capital Markets
43 Pages Posted: 20 Mar 2018
Date Written: April 23, 2017
Bureaucracy and influence activities consume a great deal of managers’ time and effort in an organization. These activities are surplus destroying in the sense that they produce no direct output or information. This paper suggests a positive role for these activities. We develop a model for allocation in internal capital markets that takes a mechanism design perspective and incorporates both costly inspection and money burning (e.g. bureaucracy, influence activities) as tools for the headquarters to pursue optimal allocations. We find that the optimal mechanism deploys both the instruments of costly inspection and money burning, often at the same time on an agent.
Keywords: costly verification, money burning, capital budgeting, investment, bureaucracy, influence activities
JEL Classification: C72, D73, G31
Suggested Citation: Suggested Citation