Capital-labor distortions in project finance

Peitz, Martin ; Shin, Dongsoo

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URN: urn:nbn:de:bsz:180-madoc-373888
Document Type: Working paper
Year of publication: 2015
The title of a journal, publication series: Working Paper Series
Volume: 15-01
Place of publication: Mannheim
Publication language: English
Institution: School of Law and Economics > Industrieökonomik, Wettbewerbspolitik u. Regulierung (Peitz 2007-)
MADOC publication series: Department of Economics > Working Paper Series
Subject: 330 Economics
Classification: JEL: D82 , D86 , G31,
Keywords (English): Agency , Project Finance , Capital-Labor Ratio , Contractibility
Abstract: An entrepreneur needs a lender`s capital input to finance a project. The entrepreneur, who is privately informed about the project environment, provides a labor input (effort). Capital and labor are perfect complements. We show that the entrepreneur may optimally distort the project`s capital-labor ratio. The direction of the distortion in capital-labor ratio depends on contractibility of the entrepreneur`s labor input. If the entrepreneur`s labor input is contractible, in the optimal contract, the entrepreneur may provide an excessive amount of labor for the amount of capital funded by the lender. If, by contrast, the entrepreneur`s labor input is non-contractible, part of the physical asset funded by the lender may remain idle.

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