Observing Unobservables: Identifying Information Asymmetries with a Consumer Credit Field Report
AbstractInformation asymmetries--which occur when one party to a transaction has more or better information than the other party--such as moral hazard or adverse selection, can cause inefficiency, overinvestment, or poverty traps. Unfortunately, they are difficult to identify in practice. This working paper by Dean Karlan, CGD non-resident fellow, and his co-author provides a microfoundation for studying the real effects of credit constraints by identifying the presence (or absence) of two specific credit market failures: adverse selection adverse selection (where sellers lack information) and moral hazard (where buyers or borrowers lack information). The experiment identifies information asymmetries by randomizing loan pricing using 58,000 direct mail offers along three dimensions: an initial "offer interest rate" featured on the direct mail solicitation, the actual interest rate on the loan contract revealed only after the borrower agreed to the initial offer rate, and the interest rate on future loans offered only to those who remained in good standing. Findings show evidence of moral hazard with weaker evidence of adverse selection. A rough calibration shows that approximately 7% to 16% of default is due to asymmetric information problems. This paper is one in a series of six CGD working papers by Dean Karlan on various aspects of microfinance (Working Paper Nos. 106 –111).
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Bibliographic InfoPaper provided by Center for Global Development in its series Working Papers with number 109.
Length: 60 pages
Date of creation: Jan 2007
Date of revision:
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Web page: http://www.cgdev.org
Information asymmetries; adverse selection; moral hazard; microfinance; credit market;
Find related papers by JEL classification:
- G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
- M20 - Business Administration and Business Economics; Marketing; Accounting - - Business Economics - - - General
- E51 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Money Supply; Credit; Money Multipliers
- D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
This paper has been announced in the following NEP Reports:
- NEP-ALL-2007-04-21 (All new papers)
- NEP-BAN-2007-04-21 (Banking)
- NEP-DEV-2007-04-21 (Development)
- NEP-EXP-2007-04-21 (Experimental Economics)
- NEP-MAC-2007-04-21 (Macroeconomics)
- NEP-MFD-2007-04-21 (Microfinance)
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