A theory of socialistic internal capital markets

Antonio E. Bernardo; Jiang Luo; James J.D. Wang

doi:10.1016/j.jfineco.2005.07.002

A theory of socialistic internal capital markets

Antonio E. Bernardo, Jiang Luo, James J.D. Wang

Department of Economics and Finance

Research output: Journal Publications and Reviews › RGC 21 - Publication in refereed journal › peer-review

30 Citations (Scopus)

Abstract

We develop a model of a two-division firm in which the "strong" division has, on average, higher quality investment opportunities than the "weak" division. We show that, in the presence of agency and information problems, optimal effort incentives are less powerful and thus managerial effort is lower in the strong division. This leads the firm to bias its project selection policy against the strong division. The selection bias is more severe when there is a larger spread in the average quality of investment opportunities between the two divisions. © 2006 Elsevier B.V. All rights reserved.

Original language	English
Pages (from-to)	485-509
Journal	Journal of Financial Economics
Volume	80
Issue number	3
DOIs	https://doi.org/10.1016/j.jfineco.2005.07.002
Publication status	Published - Jun 2006

Research Keywords

Capital budgeting
Internal capital markets
Investment policy

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10.1016/j.jfineco.2005.07.002

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TY - JOUR

T1 - A theory of socialistic internal capital markets

AU - Bernardo, Antonio E.

AU - Luo, Jiang

AU - Wang, James J.D.

PY - 2006/6

Y1 - 2006/6

N2 - We develop a model of a two-division firm in which the "strong" division has, on average, higher quality investment opportunities than the "weak" division. We show that, in the presence of agency and information problems, optimal effort incentives are less powerful and thus managerial effort is lower in the strong division. This leads the firm to bias its project selection policy against the strong division. The selection bias is more severe when there is a larger spread in the average quality of investment opportunities between the two divisions. © 2006 Elsevier B.V. All rights reserved.

AB - We develop a model of a two-division firm in which the "strong" division has, on average, higher quality investment opportunities than the "weak" division. We show that, in the presence of agency and information problems, optimal effort incentives are less powerful and thus managerial effort is lower in the strong division. This leads the firm to bias its project selection policy against the strong division. The selection bias is more severe when there is a larger spread in the average quality of investment opportunities between the two divisions. © 2006 Elsevier B.V. All rights reserved.

KW - Capital budgeting

KW - Internal capital markets

KW - Investment policy

UR - http://www.scopus.com/inward/record.url?scp=33646527163&partnerID=8YFLogxK

UR - https://www.scopus.com/record/pubmetrics.uri?eid=2-s2.0-33646527163&origin=recordpage

U2 - 10.1016/j.jfineco.2005.07.002

DO - 10.1016/j.jfineco.2005.07.002

M3 - RGC 21 - Publication in refereed journal

SN - 0304-405X

VL - 80

SP - 485

EP - 509

JO - Journal of Financial Economics

JF - Journal of Financial Economics

IS - 3

ER -

A theory of socialistic internal capital markets

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Research Keywords

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