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dc.contributor.authorGALE, Douglas
dc.contributor.authorGOTTARDI, Piero
dc.date.accessioned2013-11-07T11:59:43Z
dc.date.available2013-11-07T11:59:43Z
dc.date.issued2013
dc.identifier.issn1725-6704
dc.identifier.urihttps://hdl.handle.net/1814/28599
dc.description.abstractWe study a general equilibrium model in which firms choose their capital structure optimally, trading off the tax advantages of debt against the risk of costly default. The costs of default are endogenous: bankrupt firms are forced to liquidate their assets, resulting in a fire sale if there is insuffcient liquidity in the market. When the corporate income tax rate is zero, the optimal capital structure is indeterminate, there are no fire sales, and the equilibrium is Pareto efficient. When the tax rate is positive, the optimal capital structure is uniquely determined, default occurs with positive probability, firms’ assets are liquidated at fire-sale prices, and the equilibrium is constrained inefficient. More precisely, firms’ investment is too low and, although the capital structure is chosen optimally, in equilibrium too little debt is used. We also show that introducing more liquidity into the system can be counter-productive: although it reduces the severity of fire sales, it also reduces welfare.en
dc.format.mimetypeapplication/pdf
dc.language.isoenen
dc.relation.ispartofseriesEUI ECOen
dc.relation.ispartofseries2013/09en
dc.relation.hasversionhttp://hdl.handle.net/1814/38589
dc.rightsinfo:eu-repo/semantics/openAccessen
dc.rightsinfo:eu-repo/semantics/openAccess
dc.subjectD5en
dc.subjectD6en
dc.subjectG32en
dc.subjectG33en
dc.subjectDebten
dc.subjectEquityen
dc.subjectCapital structureen
dc.subjectDefaulten
dc.subjectMarket liquidityen
dc.subjectConstrained inefficienten
dc.subjectIncomplete marketsen
dc.titleCapital structure and investment dynamics with fire salesen
dc.typeWorking Paperen
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