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Bargaining over loan contracts with signaling

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  • Alexander Zimper
  • Mpoifeng Molefinyane

Abstract

This paper combines a sequential bargaining game between an enterprise and a fixed number of banks with a signaling game through which the enterprise reveals her project quality as well as her market‐speed on the lending market. We characterize subgame‐perfect Nash equilibrium loan contracts that are supported by separating perfect Bayesian equilibria in the signaling game. In contrast to existing models of lending markets, low‐quality investment projects might be rewarded with more favorable equilibrium loan contracts than high‐quality projects. Also in contrast to existing models, an increase in the competitive pressure between banks reduces the aggregate welfare in our model. The reason is that more favorable loan conditions come with a greater incentive for the ‘strong’ entrepreneur to distinguish herself from her ‘weak’ counterpart through socially wasteful signaling costs.

Suggested Citation

  • Alexander Zimper & Mpoifeng Molefinyane, 2021. "Bargaining over loan contracts with signaling," Journal of Public Economic Theory, Association for Public Economic Theory, vol. 23(5), pages 958-984, October.
    • Handle: RePEc:bla:jpbect:v:23:y:2021:i:5:p:958-984
    DOI: 10.1111/jpet.12480
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    References listed on IDEAS

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    1. Rabah Amir & Myrna Wooders, 2021. "Introduction to the special issue on markets, policies, and economic design: Theory and experiments," Journal of Public Economic Theory, Association for Public Economic Theory, vol. 23(5), pages 765-771, October.

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