The Emergence of Captive Finance Companies and Risk Segmentation of the Consumer Loan Market:Theory and Evidence
AbstractA parental seller with market power to some degree in its product market can earn rents. In this context, there is a gain to granting credit for the purchase of the product and thus the establishment of captive finance company for expanding the sales by offering loans to consumers who need financing for purchase of durable good. This paper examines the optimal behavior of such a durable good seller and its captive finance company when the consumer loan market is segmented into captive and independent lending institutions under symmetric and imperfect information on borrowerâ€™s creditworthiness. The model presents that one critical difference for captive finance company will be its credit standard. Specifically, the model indicates that captive finance company will follow a more lenient credit standard, leading to the prediction that the likelihood of repayment of a captive loan is lower than that of a bank loan, other things equal. This prediction is tested using unique data sets drawn from a major credit bureau in the U.S. The analysis of credit bureau data shows that a captive automobile loan is less likely to be repaid than a bank automobile loan, which supports the theoretical prediction.
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Date of creation: 11 Aug 2004
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Monopolistic Competition; Consumer Loan Market; Captive Finance Company; Differential Loan Performances;
Find related papers by JEL classification:
- D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
- D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search, Learning, and Information
- G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
This paper has been announced in the following NEP Reports:
- NEP-ALL-2004-10-30 (All new papers)
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