Affiliation:
1. Haas School of Business, University of California–Berkeley
2. Stephen M. Ross School of Business, University of Michigan
Abstract
Abstract
We consider the role of credit ratings when contracts between investors and portfolio managers are incomplete. In our model, a credit rating and a price on a risky bond both provide verifiable signals about a non-contractible state. We allow the investor to both impose ex ante restrictions on the manager’s action and provide outcome-based compensation. The optimal contract is a prohibitive one when the rating and price indicate a high likelihood of a low state, and relies on wages when the low state is less likely. We provide some observable implications of our contracting approach to ratings. (JEL G24, D86)
Publisher
Oxford University Press (OUP)
Subject
Economics and Econometrics,Finance,Accounting
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