EFFECTS OF BAILOUTS, TAXES, AND RISK-AVERSION ON THE ENTERPRISE

The paper analyzes a model in which the firm's output is stochastic and in which the manager receives subsidies if his operating profit is negative and is taxed in the converse case. The amount of the subsidy may depend on the amount of managerial labor expended on securing favorable treatment by the Center. Expected-profit maximization yields the result that input use is at least as great as that in the standard competitive case if the subsidy rate exceeds the tax rate. In various special cases, however, the solution under bailouts may coincide with the standard competitive case. The comparative statics of the model are analyzed and the results are extended to (1) the balanced budget case, in which the Center's expected tax receipts are equal to the expected subsidies it disburses and (2) the case in which the manager is riskaverse. © 1992.