A Theory of Income Smoothing When Insiders Know More Than Outsiders

A Theory of Income Smoothing When Insiders Know More Than Outsiders

Viral Acharya, Bart Lambrecht

Series number :

Serial Number: 
401/2014

Date posted :

January 01 2014

Last revised :

January 16 2014
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Keywords

  • payout policy • 
  • asymmetric information • 
  • under-investment • 
  • Finance and growth

We develop a theory of income and payout smoothing by firms when insiders know more about income than outside shareholders, but property rights ensure that outsiders can enforce a fair payout. Insiders set payout to meet outsiders? expectations and under produce to manage downward future expectations.

The observed income and payout process are smooth and adjust partially and over time in response to economic shocks. Underproduction is more severe the smaller is the inside ownership and results in an ?outside equity Laffer curve?.

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Authors

Professor
Real name: 
Viral Acharya
Fellow, Research Member
Leonard N. Stern School of Business, New York University
Real name: 
Bart Lambrecht