The Impact of Bankruptcy Rules on Risky Project Choice and Skill Formation Under Credit Rationing

33 Pages Posted: 11 May 2002

See all articles by Shubhashis Gangopadhyay

Shubhashis Gangopadhyay

India Development Foundation; University of Gothenburg; University of Groningen, Faculty of Economics and Business, Students; Indian School of Public Policy

Clas Wihlborg

Chapman University; University West

Date Written: August 2001

Abstract

The contribution of this paper is in emphasizing endogenous credit rationing in the analysis of effects of bankruptcy rules on entrepeneurs' decisions with respect to risk-taking and ex ante skill-development. Unlike most of the literature, both the debt claim and the amount of debt financing is endogenous in our exercise. This allows us to determine the extent of credit rationing that banks use to tackle informational asymmetry. Credit rationing is non-trivial and increases the cost of capital when corporations are forced to access alternative sources of funding even when debt is a cheaper alternative. We thus solve for optimal debt-equity ratios in the capital structure of the corporation and entrepeneurs' risk-taking. Second, we allow entrepeneurs to invest in generating skill to handle risky projects. We show that bankruptcy policies are important determinants of risky project choice and skill-development in ways that in some cases contradict the existing literature, which does not consider endogenous credit rationing.

Keywords: Bankruptcy rules, credit rationing, project choice

JEL Classification: G33, K22

Suggested Citation

Gangopadhyay, Shubhashis and Wihlborg, Clas, The Impact of Bankruptcy Rules on Risky Project Choice and Skill Formation Under Credit Rationing (August 2001). Available at SSRN: https://ssrn.com/abstract=302594 or http://dx.doi.org/10.2139/ssrn.302594

Shubhashis Gangopadhyay

India Development Foundation ( email )

4101 DLF Phase IV
Gurugram, Haryana 122002
India
+91 9910991221 (Phone)

University of Gothenburg

Gothenburg
Sweden

University of Groningen, Faculty of Economics and Business, Students

Postbus 72
9700 AB Groningen
Netherlands

Indian School of Public Policy

Delhi
India

Clas Wihlborg (Contact Author)

Chapman University ( email )

333 N. Glassell
Orange, CA 92866
United States
+17147447630 (Phone)

University West ( email )

Trollhättan, 46186
Sweden

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