The Economics of State Subsidies in Early Stage Financing

Ekkehardt Bauer and Burghof, Hans-Peter

International Journal of the Economics of Business, 2007, vol. 14, issue 3, pages 433-457

Abstract: We analyze the effect of state subsidies on early stage investments. In a two-period investment model with incomplete stage financing contracts, we describe optimal and second-best investment levels. Optimality depends on external effects: given that private early stage financing generates positive external effects, the subsidies might be designed to use scarce state money most efficiently to mobilize private investment capital. However, a subsidy might also contribute to greater efficiency of the contractual relationship itself without regard to external effects. Refinancing subsidies can be optimal under both perspectives and are always optimal under last of the two approaches. The comparison of the main types of subsidies, i.e. refinancing subsidies, guarantees and direct investments, speaks against the use of guarantees. Finally, we show that our results do also hold if some investors (e.g. venture capitalists) have a superior screening capability.

Keywords: Early Stage Financing; State Subsidies; Investment Decision; Venture Capital (search for similar items in EconPapers)
Date: 2007

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Persistent link: http://EconPapers.repec.org/RePEc:taf:ijecbs:v:14:y:2007:i:3:p:433-457

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