Liquidity and liquidation

David L. Kelly, Stephen F. Leroy

Research output: Contribution to journalArticlepeer-review

1 Scopus citations


The manager of a firm that is selling an illiquid asset has discretion as to the sale price: if he chooses a high (low) selling price, early sale is unlikely (likely). If the manager has the option to default on the debt that is collateralized by the illiquid asset, the optimal selling price depends on whether the manager acts in the interests of owners or creditors. We model the former case. In equilibrium the owner will always offer the illiquid asset for sale at a strictly higher price than he paid, and will default if he fails to sell. As a result, upon successful sales the illiquid asset changes hands at successively higher prices. We also consider a generalization of the model which permits sellers to finance sales using either debt or preferred stock, or both. This allows derivation of an optimal capital structure.

Original languageEnglish (US)
Pages (from-to)553-572
Number of pages20
JournalEconomic Theory
Issue number3
StatePublished - Jun 2007
Externally publishedYes


  • Agency costs
  • Asset pricing
  • Bankruptcy costs
  • Illiquid asset
  • Illiquidity
  • Liquidation
  • Optimal capital structure
  • Search

ASJC Scopus subject areas

  • Economics and Econometrics


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