Renegotiation and the Impossibility of Optimal Investment

In a model with asymmetric information and external equity financing, it is impossible to achieve socially optimal investment because of renegotiation possibilities. The contractual solution suggested by Dybvig and Zender (1991) is not dynamically consistent--the manager's contract would be renegotiated, resulting in inefficient investment. Moreover, no other compensation contract that would induce the manager to invest efficiently survives...