IDEAS home Printed from https://ideas.repec.org/a/inm/ormnsc/v68y2022i6p4496-4516.html
   My bibliography  Save this article

Morale and Debt Dynamics

Author

Listed:
  • Daniel Barron

    (Kellogg School of Management, Northwestern University, Evanston, Illinois 60208)

  • Jin Li

    (Faculty of Business and Economics, The University of Hong Kong, Pok Fu Lam, Hong Kong)

  • Michał Zator

    (Mendoza College of Business, University of Notre Dame, Notre Dame, Indiana 46556)

Abstract

This paper shows that debt undermines relational incentives and harms worker morale. We build a dynamic model of a manager who uses limited financial resources to simultaneously repay a creditor and motivate a worker. If the manager can divert or misuse revenue, then debt makes the manager less willing to follow through on promised rewards, leading to low worker effort. In profit-maximizing equilibria, the firm prioritizes repaying its debts, leading to gradual increases in effort and wages. These dynamics can persist even after debts have been fully repaid. Consistent with this analysis, we document that a firm’s financial leverage is negatively related to measures of employee morale, wages, and productivity.

Suggested Citation

  • Daniel Barron & Jin Li & Michał Zator, 2022. "Morale and Debt Dynamics," Management Science, INFORMS, vol. 68(6), pages 4496-4516, June.
    • Handle: RePEc:inm:ormnsc:v:68:y:2022:i:6:p:4496-4516
    DOI: 10.1287/mnsc.2021.4118
    as

    Download full text from publisher

    File URL: http://dx.doi.org/10.1287/mnsc.2021.4118
    Download Restriction: no
    File URL: https://libkey.io/10.1287/mnsc.2021.4118?utm_source=ideas
    LibKey link: if access is restricted and if your library uses this service, LibKey will redirect you to where you can use your library subscription to access this item
    ---><---

    References listed on IDEAS

    as
    1. James M. Malcomson, 2016. "Relational Incentive Contracts With Persistent Private Information," Econometrica, Econometric Society, vol. 84, pages 317-346, January.
    2. Jonathan Levin, 2003. "Relational Incentive Contracts," American Economic Review, American Economic Association, vol. 93(3), pages 835-857, June.
    3. Jonathan Thomas & Tim Worrall, 1994. "Foreign Direct Investment and the Risk of Expropriation," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 61(1), pages 81-108.
    4. Bengt Holmstrom & Jean Tirole, 1997. "Financial Intermediation, Loanable Funds, and The Real Sector," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 112(3), pages 663-691.
    5. Shleifer, Andrei & Vishny, Robert W, 1997. "A Survey of Corporate Governance," Journal of Finance, American Finance Association, vol. 52(2), pages 737-783, June.
    6. Efraim Benmelech & Nittai K. Bergman & Ricardo J. Enriquez, 2012. "Negotiating with Labor under Financial Distress," The Review of Corporate Finance Studies, Society for Financial Studies, vol. 1(1), pages 28-67.
    7. Lichtenberg, Frank R. & Siegel, Donald, 1990. "The effects of leveraged buyouts on productivity and related aspects of firm behavior," Journal of Financial Economics, Elsevier, vol. 27(1), pages 165-194, September.
    8. Marina Halac, 2012. "Relational Contracts and the Value of Relationships," American Economic Review, American Economic Association, vol. 102(2), pages 750-779, April.
    9. Matthias Fahn & Valeria Merlo & Georg Wamser, 2019. "The Commitment Role of Equity Financing," Journal of the European Economic Association, European Economic Association, vol. 17(4), pages 1232-1260.
    10. Peter M. DeMarzo & Michael J. Fishman, 2007. "Optimal Long-Term Financial Contracting," The Review of Financial Studies, Society for Financial Studies, vol. 20(6), pages 2079-2128, November.
    11. Jensen, Michael C, 1986. "Agency Costs of Free Cash Flow, Corporate Finance, and Takeovers," American Economic Review, American Economic Association, vol. 76(2), pages 323-329, May.
    12. Gian Luca Clementi & Hugo A. Hopenhayn, 2006. "A Theory of Financing Constraints and Firm Dynamics," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 121(1), pages 229-265.
    13. Lang, Larry & Ofek, Eli & Stulz, Rene M., 1996. "Leverage, investment, and firm growth," Journal of Financial Economics, Elsevier, vol. 40(1), pages 3-29, January.
    14. Zhiguo He & Konstantin Milbradt, 2016. "Dynamic Debt Maturity," The Review of Financial Studies, Society for Financial Studies, vol. 29(10), pages 2677-2736.
    15. Marina Halac, 2015. "Investing in a relationship," RAND Journal of Economics, RAND Corporation, vol. 46(1), pages 165-185, March.
    16. Fong, Yuk-fai & Li, Jin, 2017. "Relational contracts, limited liability, and employment dynamics," Journal of Economic Theory, Elsevier, vol. 169(C), pages 270-293.
    17. Claudio Michelacci & Vincenzo Quadrini, 2009. "Financial Markets and Wages," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 76(2), pages 795-827.
    18. Matthias Fahn & Valeria Merlo & Georg Wamser, 2017. "Relational Contracts, the Cost of Enforcing Formal Contracts, and Capital Structure Choice - Theory and Evidence," Economics working papers 2017-11, Department of Economics, Johannes Kepler University Linz, Austria.
    19. Florian Englmaier & Matthias Fahn, 2019. "Size Matters: How Over-Investments Relax Liquidity Constraints in Relational Contracts," The Economic Journal, Royal Economic Society, vol. 129(624), pages 3092-3106.
    20. Philippe Aghion & Patrick Bolton, 1992. "An Incomplete Contracts Approach to Financial Contracting," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 59(3), pages 473-494.
    21. Kale, Jayant R. & Shahrur, Husayn, 2007. "Corporate capital structure and the characteristics of suppliers and customers," Journal of Financial Economics, Elsevier, vol. 83(2), pages 321-365, February.
    22. Liu, Ce & Ali, S. Nageeb, 2019. "Conventions and Coalitions in Repeated Games," Working Papers 2019-8, Michigan State University, Department of Economics.
    23. Bae, Kee-Hong & Kang, Jun-Koo & Wang, Jin, 2011. "Employee treatment and firm leverage: A test of the stakeholder theory of capital structure," Journal of Financial Economics, Elsevier, vol. 100(1), pages 130-153, April.
    24. William Fuchs, 2007. "Contracting with Repeated Moral Hazard and Private Evaluations," American Economic Review, American Economic Association, vol. 97(4), pages 1432-1448, September.
    25. Amit Gandhi & Salvador Navarro & David A. Rivers, 2020. "On the Identification of Gross Output Production Functions," Journal of Political Economy, University of Chicago Press, vol. 128(8), pages 2973-3016.
    26. Clive Bull, 1987. "The Existence of Self-Enforcing Implicit Contracts," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 102(1), pages 147-159.
    27. James Levinsohn & Amil Petrin, 2003. "Estimating Production Functions Using Inputs to Control for Unobservables," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 70(2), pages 317-341.
    28. Jin Li & Niko Matouschek, 2013. "Managing Conflicts in Relational Contracts," American Economic Review, American Economic Association, vol. 103(6), pages 2328-2351, October.
    29. Townsend, Robert M., 1979. "Optimal contracts and competitive markets with costly state verification," Journal of Economic Theory, Elsevier, vol. 21(2), pages 265-293, October.
    30. Douglas Gale & Martin Hellwig, 1985. "Incentive-Compatible Debt Contracts: The One-Period Problem," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 52(4), pages 647-663.
    31. Simon Board, 2011. "Relational Contracts and the Value of Loyalty," American Economic Review, American Economic Association, vol. 101(7), pages 3349-3367, December.
    32. Rui Albuquerque & Hugo A. Hopenhayn, 2004. "Optimal Lending Contracts and Firm Dynamics," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 71(2), pages 285-315.
    33. John R. Graham & Hyunseob Kim & Si Li & Jiaping Qiu, 2019. "Employee Costs of Corporate Bankruptcy," NBER Working Papers 25922, National Bureau of Economic Research, Inc.
    34. Damon Jones & David Molitor & Julian Reif, 2019. "What do Workplace Wellness Programs do? Evidence from the Illinois Workplace Wellness Study," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 134(4), pages 1747-1791.
    35. Jensen, Michael C. & Meckling, William H., 1976. "Theory of the firm: Managerial behavior, agency costs and ownership structure," Journal of Financial Economics, Elsevier, vol. 3(4), pages 305-360, October.
    36. Jonathan Levin, 2002. "Multilateral Contracting and the Employment Relationship," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 117(3), pages 1075-1103.
    37. Hart, Oliver, 1995. "Firms, Contracts, and Financial Structure," OUP Catalogue, Oxford University Press, number 9780198288817.
    38. Biais, Bruno & Gollier, Christian, 1997. "Trade Credit and Credit Rationing," The Review of Financial Studies, Society for Financial Studies, vol. 10(4), pages 903-937.
    39. Klein, Benjamin & Leffler, Keith B, 1981. "The Role of Market Forces in Assuring Contractual Performance," Journal of Political Economy, University of Chicago Press, vol. 89(4), pages 615-641, August.
    40. Jan-Emmanuel De Neve & Christian Krekel & George Ward, 2019. "Employee wellbeing, productivity and firm performance," CEP Discussion Papers dp1605, Centre for Economic Performance, LSE.
    41. Myers, Stewart C., 1977. "Determinants of corporate borrowing," Journal of Financial Economics, Elsevier, vol. 5(2), pages 147-175, November.
    42. Isaiah Andrews & Daniel Barron, 2016. "The Allocation of Future Business: Dynamic Relational Contracts with Multiple Agents," American Economic Review, American Economic Association, vol. 106(9), pages 2742-2759, September.
    43. MacLeod, W Bentley & Malcomson, James M, 1989. "Implicit Contracts, Incentive Compatibility, and Involuntary Unemployment," Econometrica, Econometric Society, vol. 57(2), pages 447-480, March.
    44. Francesco Manaresi & Mr. Nicola Pierri, 2019. "Credit Supply and Productivity Growth," IMF Working Papers 2019/107, International Monetary Fund.
    45. Hennessy, Christopher A. & Livdan, Dmitry, 2009. "Debt, bargaining, and credibility in firm-supplier relationships," Journal of Financial Economics, Elsevier, vol. 93(3), pages 382-399, September.
    46. Daniel Barron & Michael Powell, 2019. "Policies in Relational Contracts," American Economic Journal: Microeconomics, American Economic Association, vol. 11(2), pages 228-249, May.
    47. Tirole, Jean, 1986. "Hierarchies and Bureaucracies: On the Role of Collusion in Organizations," The Journal of Law, Economics, and Organization, Oxford University Press, vol. 2(2), pages 181-214, Fall.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Fahn, Matthias & MacLeod, W. Bentley & Muehlheusser, Gerd, 2023. "Past and Future Developments in the Economics of Relational Contracts," IZA Discussion Papers 16427, Institute of Labor Economics (IZA).

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Francesc Dilmé & Daniel F. Garrett, 2023. "Relational Contracts: Public versus Private Savings," Econometrica, Econometric Society, vol. 91(3), pages 1025-1075, May.
    2. Matthias Fahn & Valeria Merlo & Georg Wamser, 2019. "The Commitment Role of Equity Financing," Journal of the European Economic Association, European Economic Association, vol. 17(4), pages 1232-1260.
    3. Joel Watson, 2021. "Theoretical Foundations of Relational Incentive Contracts," Annual Review of Economics, Annual Reviews, vol. 13(1), pages 631-659, August.
    4. Committee, Nobel Prize, 2016. "Oliver Hart and Bengt Holmström: Contract Theory," Nobel Prize in Economics documents 2016-1, Nobel Prize Committee.
    5. Eduard Marinov, 2016. "The 2016 Nobel Prize in Economics," Economic Thought journal, Bulgarian Academy of Sciences - Economic Research Institute, issue 6, pages 97-149.
    6. David Martimort & Aggey Semenov & Lars Stole, 2017. "A Theory of Contracts with Limited Enforcement," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 84(2), pages 816-852.
    7. Lang, Matthias, 2019. "Communicating subjective evaluations," Journal of Economic Theory, Elsevier, vol. 179(C), pages 163-199.
    8. Fong, Yuk-fai & Li, Jin, 2017. "Relational contracts, limited liability, and employment dynamics," Journal of Economic Theory, Elsevier, vol. 169(C), pages 270-293.
    9. De Chiara, Alessandro, 2020. "Precontractual investment and modes of procurement," European Economic Review, Elsevier, vol. 124(C).
    10. Florian Englmaier & Matthias Fahn, 2015. "Size Matters - "Over"investments in a Relational Contracting Setting," CESifo Working Paper Series 5154, CESifo.
    11. Oliver Hart, 2001. "Financial Contracting," Journal of Economic Literature, American Economic Association, vol. 39(4), pages 1079-1100, December.
    12. Stein, Jeremy C., 2003. "Agency, information and corporate investment," Handbook of the Economics of Finance, in: G.M. Constantinides & M. Harris & R. M. Stulz (ed.), Handbook of the Economics of Finance, edition 1, volume 1, chapter 2, pages 111-165, Elsevier.
    13. Anderson, Ronald W. & Nyborg, Kjell G., 2011. "Financing and corporate growth under repeated moral hazard," Journal of Financial Intermediation, Elsevier, vol. 20(1), pages 1-24, January.
    14. Matthias Fahn & Nicolas Klein, 2019. "Relational Contracts with Private Information on the Future Value of the Relationship: The Upside of Implicit Downsizing Costs," American Economic Journal: Microeconomics, American Economic Association, vol. 11(4), pages 33-58, November.
    15. W. Bentley MacLeod & James M. Malcomson, 2023. "Implicit Contracts, Incentive Compatibility, and Involuntary Unemployment: Thirty Years On," Journal of Institutional and Theoretical Economics (JITE), Mohr Siebeck, Tübingen, vol. 179(3-4), pages 470-499.
    16. James M. Malcomson, 2012. "Relational Incentive Contracts [The Handbook of Organizational Economics]," Introductory Chapters,, Princeton University Press.
    17. Armstrong, Christopher S. & Guay, Wayne R. & Weber, Joseph P., 2010. "The role of information and financial reporting in corporate governance and debt contracting," Journal of Accounting and Economics, Elsevier, vol. 50(2-3), pages 179-234, December.
    18. Spagnolo, Giancarlo & Calzolari, Giacomo, 2009. "Relational Contracts and Competitive Screening," CEPR Discussion Papers 7434, C.E.P.R. Discussion Papers.
    19. Langberg, Nisan, 2008. "Optimal financing for growth firms," Journal of Financial Intermediation, Elsevier, vol. 17(3), pages 379-406, July.
    20. Ozan Güler & Mike Mariathasan & Klaas Mulier & Nejat G. Okatan, 2021. "The real effects of banks' corporate credit supply: A literature review," Economic Inquiry, Western Economic Association International, vol. 59(3), pages 1252-1285, July.

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:inm:ormnsc:v:68:y:2022:i:6:p:4496-4516. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Chris Asher (email available below). General contact details of provider: https://edirc.repec.org/data/inforea.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.