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Risky Banking and Credit Rationing

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Author Info

  • Pedro Elosegui

    (Central Bank of Argentina)

  • Anne P. Villamil

    ()
    (University of Illinois at Urbana-Champaign)

Abstract

In this paper a bank faces excess demand in the loan market, can sort loan applicants by an observable measure of quality, and faces a small but positive probability of default. The bank uses two policies to allocate credit: (i) tighten restrictions on loan quality; (ii) limit the number of loans of a given quality. We show that the level of default risk and other structural conditions have important effects on the market for loanable funds and the bank’s optimal policies (loan rates, deposit rates, and lending standards). The structural conditions that we examine are monitoring costs, returns on alternative investments, firms’ minimum funding requirements, and the level of the reserve requirement. The model provides insight into several stylized facts observed in loan markets, especially in developing countries.

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File URL: http://www.bcra.gov.ar/pdfs/investigaciones/Riesgos%20bancarios%20y%20racionamiento%20de%20credito.pdf
File Function: Spanish version (versión en Español)
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Bibliographic Info

Article provided by Central Bank of Argentina, Economic Research Department in its journal Ensayos Económicos.

Volume (Year): 1 (2007)
Issue (Month): 49 (October - December)
Pages: 33-64

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Handle: RePEc:bcr:ensayo:v:1:y:2007:i:49:p:33-64

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Related research

Keywords: banks; credit rationing; default risk; developing countries; interest rate spreads; monitoring costs;

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  1. Williamson, Stephen D., 1986. "Costly monitoring, financial intermediation, and equilibrium credit rationing," Journal of Monetary Economics, Elsevier, vol. 18(2), pages 159-179, September.
  2. Winton Andrew, 1995. "Delegated Monitoring and Bank Structure in a Finite Economy," Journal of Financial Intermediation, Elsevier, vol. 4(2), pages 158-187, April.
  3. Williamson, Stephen D, 1987. "Financial Intermediation, Business Failures, and Real Business Cycles," Journal of Political Economy, University of Chicago Press, vol. 95(6), pages 1196-1216, December.
  4. Stephen D. Williamson, 1984. "Costly Monitoring, Loan Contracts and Equilibrium Credit Rationing," Working Papers 572, Queen's University, Department of Economics.
  5. John H. Boyd & Bruce D. Smith, 1996. "The use of debt and equity in optimal financial contracts," Working Papers 537, Federal Reserve Bank of Minneapolis.
  6. Boyd, John H. & Smith, Bruce D., 1997. "Capital Market Imperfections, International Credit Markets, and Nonconvergence," Journal of Economic Theory, Elsevier, vol. 73(2), pages 335-364, April.
  7. Diamond, Douglas W, 1984. "Financial Intermediation and Delegated Monitoring," Review of Economic Studies, Wiley Blackwell, vol. 51(3), pages 393-414, July.
  8. Mark G. Guzman, 2000. "Bank structure, capital accumulation and growth: a simple macroeconomic model," Economic Theory, Springer, vol. 16(2), pages 421-455.
  9. Bruce D. Smith & John H. Boyd, 1998. "Capital market imperfections in a monetary growth model," Economic Theory, Springer, vol. 11(2), pages 241-273.
  10. Krasa, Stefan & Villamil, Anne P, 1992. "A Theory of Optimal Bank Size," Oxford Economic Papers, Oxford University Press, vol. 44(4), pages 725-49, October.
  11. Gale, Douglas & Hellwig, Martin, 1985. "Incentive-Compatible Debt Contracts: The One-Period Problem," Review of Economic Studies, Wiley Blackwell, vol. 52(4), pages 647-63, October.
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