In their classic analyses, Hobbes and Hume argue that offensively violating a covenant is irrational because the offense ruins one’s reputation. This paper explores conditions under which reputation alone can enforce covenants. The members of a community are modeled as interacting in a Covenant Game repeated over time. Folk theorems are presented that give conditions under which theHumean strat...

We develop a model of financial maintenance covenants under moral hazard, adverse selection, and accounting signals of varying quality. We explain how public signals from accounting statements can improve the outcome for lenders and borrowers by reducing inefficient risk-taking (in both the pooling and separating equilibrium), and by shielding good firms from the actions of bad (separating) one...