Working Paper: NBER ID: w4776
Authors: Robert H. Gertner; David S. Scharfstein; Jeremy C. Stein
Abstract: This paper presents a framework for analyzing the costs and benefits of internal vs. external capital allocation. We focus primarily on comparing an internal capital market to bank lending. While both represent centralized forms of financing, in the former case the financing is owner-provided, while in the latter case it is not. We argue that the ownership aspect of internal capital allocation has three important consequences: 1) it leads to more monitoring than bank lending; 2) it reduces managers' entrepreneurial incentives; and 3) it makes it easier to efficiently redeploy the assets of projects that are performing poorly under existing management.
Keywords: capital markets; internal capital allocation; external financing; monitoring incentives; entrepreneurial incentives
JEL Codes: G32; G21
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| internal capital markets (G19) | increased monitoring incentives (E63) |
| ownership (H13) | increased monitoring intensity (E63) |
| ownership (H13) | decreased managerial incentives (M52) |
| decreased managerial incentives (M52) | decreased entrepreneurial activity (L26) |
| internal capital markets (G19) | improved asset redeployability (G31) |
| improved asset redeployability (G31) | efficient reallocation of resources (D61) |