| The purpose of this study is to develop a model of debt choice that is consistent with the empirical literature on non-financial firms' use of alternative forms of debt financing. The study first examines the empirical work on firms' debt choices that shows that commercial bank debt dominates other sources of net external financing across developed economies and its use persists throughout firms' lives. The study next reviews extant theoretical models of capital structure and debt choice. Those theoretical elements that are most consistent with the empirical results on debt choice, including theories of control, liquidity provision, and relationship lending, are then incorporated into a two-period model of debt choice that emphasizes managerial moral hazard and the role of bank debt in its mitigation.; In contrast to much of the existing theory that focuses only on the potential costs of bank debt, the model developed in this study includes both costs and benefits. Consistent with the empirical literature, the costs of bank debt are modeled as the threat of partial, not complete, liquidation of firm assets. The benefits of bank debt accrue from the accommodation of firm growth through liquidity provision. Firms that exert effort are found to reduce but not eliminate their reliance on commercial bank debt over their financial growth cycles.; Two implications of the model for debt choice are emphasized in the study. First, when the costs of effort are high, the potential contribution of commercial bank debt to the gains to effort may induce effort that would otherwise not occur. Secondly, the model suggests that the firm's optimal capital structure is only indirectly determined by firm management's choice variables.; The model is then extended to examine other issues related to debt choice, including the implications of alternative lending bases in the debt market and alternative debt sources beyond bank and bond debt. The study concludes with an examination of the model's macroeconomic implications that emphasize the complementary roles of commercial bank and public bond debt in both promoting firm effort and good state outcomes and mitigating the threat of financial crisis. |
