Short-Term Contracts as a Monitoring Device

38 Pages Posted: 2 Jul 2004 Last revised: 3 Nov 2022

See all articles by Patrick Rey

Patrick Rey

Toulouse School of Economics; Centre for Economic Policy Research (CEPR)

Joseph E. Stiglitz

Columbia University - Columbia Business School, Finance; National Bureau of Economic Research (NBER)

Date Written: October 1993

Abstract

This paper focuses on two separate problems. The first is that frequently, the most profitable use of funds involves long-term investments, which militiates for long-term debt contracts. The second problem is to monitor the investor's use of funds, as exemplified by the U.S. S&L saga, and we argue that short-term debt provides investors, who can withdraw their funds, with a real threat over firms. We show that short-term investors have both desirable incentives to exert control and invest in monitoring, and that this monitoring concern provides an explanation of the often lamented disparity between the maturity of banks' assets and liabilities. We also explore in detail the trade-off between long-term and short-term debt, including the possibility of multiple contracts and of priority rules.

Suggested Citation

Rey, Patrick and Stiglitz, Joseph E., Short-Term Contracts as a Monitoring Device (October 1993). NBER Working Paper No. w4514, Available at SSRN: https://ssrn.com/abstract=453814

Patrick Rey

Toulouse School of Economics ( email )

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Centre for Economic Policy Research (CEPR)

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Joseph E. Stiglitz (Contact Author)

Columbia University - Columbia Business School, Finance ( email )

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