Rents, learning and risk in the financial sector and other innovative industries

Biais, Bruno, Rochet, Jean-Charles and Woolley, Paul (2009) Rents, learning and risk in the financial sector and other innovative industries. Financial Markets Group Discussion Papers (632). Financial Markets Group, The London School of Economics and Political Science, London, UK.

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Abstract

We study innovative industries subject to two risks. First, it is uncertain whether the innovation is strong or fragile. Second, it is difficult to monitor managers, which creates moral hazard and agency rents. As time goes by and profits are observed, beliefs about the industry are updated. As long as no default occurs, confidence builds up. Initially this spurs growth. But increasingly confident managers end up requesting large rents, curbing the growth of the industry. If rents become too high, investors give up on incentives, and failure rates rise. If the innovation is fragile, eventually there is a crisis. Our model captures stylized facts of the recent financial innovation wave and generates new implications for risks, returns and rents.

Item Type:	Monograph (Discussion Paper)
Official URL:	https://www.fmg.ac.uk/
Additional Information:	© 2009 The Authors
Divisions:	Financial Markets Group
Subjects:	H Social Sciences > HF Commerce H Social Sciences > HB Economic Theory
JEL classification:	G - Financial Economics > G1 - General Financial Markets > G12 - Asset Pricing; Trading volume; Bond Interest Rates
Date Deposited:	10 Jul 2009 15:03
Last Modified:	15 Sep 2023 23:15
URI:	http://eprints.lse.ac.uk/id/eprint/24417

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