Alfred Duncan

We show how the prospect of disputes over firms' revenue reports promotes debt financing over equity. These findings are presented within a costly state verification model with a risk averse entrepreneur. The prospect of disputes encourages incentive regimes which limit penalties and avoid stochastic monitoring, even when the lender can commit to stochastic enforcement strategies. Consequently, optimal contracts shift away from equity and toward standard debt. For a useful special case of the model, closed form solutions are presented for leverage and consumption allocations under efficient debt contracts.

The establishment of the UK Financial Policy Committee is a landmark development in macroprudential oversight. However, its purview may be overly narrow. Macroprudential policy ought to be concerned with the overall efficiency of the financial system. Macroprudential policymakers should have a role as much concerned with providing authoritative, public advice on areas of policy relevant to aggregate financial efficiency as with imposing additional restrictions on bank lending. Issues of independence and transparency loom large under the current regime as well as with some suggestions we make.

This paper considers the importance of insurance markets for commonly observed risks in a setting where entrepreneur borrowers' individual specific risks are private information. Within with a new framework allowing risk averse entrepreneur borrowers in a costly state verification setting, the key finding of this paper is that there is very little welfare loss suffered from market incompleteness for commonly observed risks. This contrasts with earlier studies, who have suggested that the welfare losses from incomplete common shock insurance markets are large---a finding which has motivated calls for macroprudential and financial stabilisation policy intervention.

When individuals have private information about their own luck and income, the sharing of idiosyncratic risks is hampered by moral hazard. It turns out that these frictions acting on idiosyncratic risk sharing also affect the optimal sharing of systemic risks. Restricting trade in systemic risk insurance can assist agents in identifying those who have misreported their idiosyncratic or individual specific risks. This relaxes the incentive compatibility constraint relating to moral hazard and increases the extent to which idiosyncratic risks can be shared.

This paper presents a DSGE model with risk averse entrepreneurs who must be compensated for bearing productive risk. Increases in leverage or in financial stress increase the risk burden placed on entrepreneurs, and reduce wages and interest rates below their factors' respective marginal products. This increases the volatility of employment, and distorts the link between labour cost growth and inflation pressure. Inequalities between worker households and entrepreneurs amplify and propagate business cycle shocks. Furthermore, the model describes a link between observed macroeconomic trends in the labour share of income and the capital-output ratio and the observed decline in entrepreneurship over recent decades. The model suggest that this decline in entrepreneurship is consistent with trend increases in leverage as well as an increase in the sensitivity of employment and output to financial shocks.

This paper presents a model in which a monetary regime targeting nominal output encourages agents to follow the herd into projects which are highly correlated with total output. The key assumption behind this result is that contracts between firm insiders and outsiders are written in nominal terms. This means that monetary policy is non-neutral, and that firm insiders can take advantage of the negative correlation between prices and total output under nominal output targeting regimes. Under inflation or price level targeting, incentives to diversify into uncorrelated projects are restored.