Equilibrium Policy on Dividend and Capital Injection under Time-inconsistent Preferences

TL;DR

This paper analyzes optimal dividend and capital injection strategies under time-inconsistent preferences using a diffusion risk model, deriving explicit solutions and examining the effects of discounting and costs.

Contribution

It introduces a weak equilibrium framework for time-inconsistent preferences and provides explicit solutions under pseudo-exponential discounting.

Findings

Large capital injection costs can prevent injections.

Higher group discount rate increases the equilibrium value.

Explicit threshold strategies are derived for specific discount functions.

Abstract

This paper studies the dividend and capital injection problem under a diffusion risk model with general discount functions. A proportional cost is imposed when injecting capitals. For exponential discounting as time-consistent benchmark, we obtain the closed-form solutions and show that the optimal strategies are of threshold type. Under general discount function which leads to time-inconsistency, we adopt the definition of weak equilibrium and obtain the extended HJB equation system. An explicit solution is derived under pseudo-exponential discounting where three cases of the dividend and capital injection thresholds are obtained. Numerical examples show that large capital injection cost may lead to no capital injection at all, while larger difference in group discount rate leads to higher equilibrium value function.