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March 30, 2012

Debt Overhang and Capital Regulation

This March 2012 paper analyzes shareholder incentives to change the leverage of a firm that has borrowed substantially.

Because of such debt, shareholders typically don’t have incentives to decrease leverage that would make the remaining debt safer. Government subsidies of debt contribute to resistance of such deleveraging. The analysis is relevant to the debate over bank capital regulation, where subsidies favor debt over equity.

The report was authored by Anat Admati, Peter DeMarzo, and Paul Pfleiderer of Stanford University’s Graduate School of Business and Martin Hellwig of Max Planck Institute for Research on Collective Goods in Bonn, Germany.

Read the report here 



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