Journal Article

Financing from Family and Friends

Samuel Lee and Petra Persson

in The Review of Financial Studies

Published on behalf of The Society for Financial Studies

Volume 29, issue 9, pages 2341-2386
Published in print September 2016 | ISSN: 0893-9454
Published online May 2016 | e-ISSN: 1465-7368 | DOI: https://dx.doi.org/10.1093/rfs/hhw031
Financing from Family and Friends

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  • Corporate Governance
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Most informal finance comes from family and friends. Existing informal finance theories cannot match two characteristics of family finance: family investors may accept below-market or even negative returns, yet borrowers often prefer formal finance. We argue that social preferences make family finance cheap but create shadow costs that nonetheless discourage its use: Committing family funds to risky investment displaces intrafamily insurance and undermines limited liability. The same characteristics that sustain familial insurance thus render family finance a poor source of risk capital. Even when overcoming capital constraints requires social ties, intermediation and semiformalization may therefore be crucial for promoting risk taking.

Received April 29, 2013; accepted December 4, 2015 by Editor Andrew Karolyi.

Keywords: G32; G21; O16; O17; D19; D64

Journal Article.  19816 words.  Illustrated.

Subjects: Corporate Governance ; Banking ; Economic Development ; Household Behaviour and Family Economics ; Welfare Economics

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