We study a market for funding real investment where valuation—meaning investors devoting resources to acquiring information about future payoffs—creates an adverse selection problem. Unlike previous models, more valuation is associated with lower market prices and so greater returns to valuation. This strategic complementarity in the capacity to do valuation generates multiple equilibria. With multiple equilibria, the equilibrium without valuation is most efficient despite funding some unprofitable investments. Switches to valuation equilibria, valuation runs, look like credit crunches. A large investor can ensure the efficient equilibrium only if it can precommit to a price and potentially, only if subsidized.

[Agency problems limit firms' access to capital markets, curbing investment. Firms and investors seek contractual ways to mitigate these problems. What are the implications for investment? We present a theory of a firm's investment dynamics in the presence of agency problems and optimal long-term financial contracts. We derive results relating firms' investment decisions, current and past cash flows, firm size, capital structure, and dividends. Among the results, optimal investment is increasing in current and past cash flow; and optimal investment is positively serially correlated over time (after controlling for investment opportunities). These results hold for a range of agency problems.]

[We develop an agency model of financial contracting. We derive long-term debt, a line of credit, and equity as optimal securities, capturing the debt coupon and maturity; the interest rate and limits on the credit line; inside versus outside equity; dividend policy; and capital structure dynamics. The optimal debt-equity ratio is history dependent, but debt and credit line terms are independent of the amount financed and, in some cases, the severity of the agency problem. In our model, the agent can divert cash flows; we also consider settings in which the agent undertakes hidden effort, or can control cash flow risk.]

[Financial market regulations require various "insiders" to disclose their trades after the trades are made. We show that such mandatory disclosure rules can increase insiders' expected trading profits. This is because disclosure leads to profitable trading opportunities for insiders even if they possess no private information on the asset's value. We also show that insiders will generally not voluntarily disclose their trades, so for disclosure to be forthcoming, it must be mandatory. Key to the analysis is that the market cannot observe whether an insider is trading on private information regarding asset value or is trading for personal portfolio reasons.]

We study a market for funding real investment where valuation—meaning investors devoting resources to acquiring information about future payoffs—creates an adverse selection problem. Unlike previous models, more valuation is associated with lower market prices and so greater returns to valuation. This strategic complementarity in the capacity to do valuation generates multiple equilibria. With multiple equilibria, the equilibrium without valuation is most efficient despite funding some unprofitable investments. Switches to valuation equilibria, valuation runs, look like credit crunches. A large investor can ensure the efficient equilibrium only if it can precommit to a price and potentially, only if subsidized.

We develop an agency model of financial contracting. We derive long-term debt, a line of credit, and equity as optimal securities, capturing the debt coupon and maturity; the interest rate and limits on the credit line; inside versus outside equity; dividend policy; and capital structure dynamics. The optimal debt-equity ratio is history dependent, but debt and credit line terms are independent of the amount financed and, in some cases, the severity of the agency problem. In our model, the agent can divert cash flows; we also consider settings in which the agent undertakes hidden effort, or can control cash flow risk.

Agency problems limit firms' access to capital markets, curbing investment. Firms and investors seek contractual ways to mitigate these problems. What are the implications for investment? We present a theory of a firm's investment dynamics in the presence of agency problems and optimal long-term financial contracts. We derive results relating firms' investment decisions, current and past cash flows, firm size, capital structure, and dividends. Among the results, optimal investment is increasing in current and past cash flow; and optimal investment is positively serially correlated over time (after controlling for investment opportunities). These results hold for a range of agency problems.

We analyze a dynamic credit market where banks choose lending standards, modeled as costly effort to screen out bad borrowers. Tighter standards worsen the borrower pool, increasing banks’ incentives to employ tight standards in the future. This dynamic complementarity in lending standards can amplify and prolong downturns, decreasing lending and increasing credit spreads. Because lending standards have negative externalities, the market can converge to a steady state with inefficiently tight lending standards. We discuss the role of optimal policy to avoid this outcome as well as the impact of balance sheet costs on lending standards.