Why Are Entrepreneurs Liquidity-Constrained?

Weiying Zhang ()

Annals of Economics and Finance, 2000, vol. 1, issue 1, 165-188

Abstract: Why are entrepreneurs liquidity-constrained? The existing literature has almost exclusively focused on incentive problems associated with choices of work efforts and of project qualities. This paper shifts attention to the effect of liquidity-constraints on the quality of the entrepreneurial pool. Assuming that entrepreneurial ability is private information while personal wealth is public information, the paper shows that entrepreneurs are liquidity-constrained because the critical ability for one to choose being an entrepreneur rather than a wage worker increases with his personal wealth and therefore markets read low wealth of a would-be entrepreneur as a signal of low entrepreneurial ability and high probability of default. A normative implication is that liquidity constraints may be socially desirable since they work as a mechanism to guarantee that only high-ability people will be selected for entrepreneurship.

Keywords: Entrepreneurial ability; Asymmetric information; Liquidity constraints (search for similar items in EconPapers)
JEL-codes: P16 (search for similar items in EconPapers)
Date: 2000
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Persistent link: https://EconPapers.repec.org/RePEc:cuf:journl:y:2000:v:1:i:1:p:165-188

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