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Idiosyncratic Uncertainty, Asymmetric Information, and Private Credit

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  • Santiago Acosta-Ormaechea
  • Atsuyoshi Morozumi
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    Abstract

    We propose firm-specific (idiosyncratic) uncertainty as a key cross-country determinant of the total credit allocated to the private sector. We show that in the presence of informational asymmetry in the credit market, theory suggests that higher uncertainty lowers the ratio of private credit to output by reducing the former proportionally more than the latter. Output falls because the higher uncertainty enlarges economic distortions and reduces aggregate capital accumulation. Credit falls proportionally more because the higher uncertainty allows firms to earn larger rents and increases their internal funds, while it reduces the overall financing required in the lower output environment. Thus, a country with higher idiosyncratic uncertainty is characterized by a lower credit-to-output ratio. We show that this theoretical prediction is supported by regression analysis.

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    Paper provided by University of Nottingham, Centre for Finance, Credit and Macroeconomics (CFCM) in its series Discussion Papers with number 12/12.

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    Handle: RePEc:not:notcfc:12/12

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    1. Jeremy Greenwood & Juan M. Sánchez & Cheng Wang, 2010. "Financing development: the role of information costs," Working Papers 2010-024, Federal Reserve Bank of St. Louis.
    2. Beck, T.H.L. & Levine, R. & Loayza, N., 2000. "Finance and the sources of growth," Open Access publications from Tilburg University urn:nbn:nl:ui:12-3125520, Tilburg University.
    3. Tullio Jappelli & Marco Pagano, 1999. "Information Sharing, Lending and Defaults: Cross-Country Evidence," CSEF Working Papers 22, Centre for Studies in Economics and Finance (CSEF), University of Naples, Italy.
    4. 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.
    5. Rüdiger Bachmann & Christian Bayer, 2011. "Uncertainty Business Cycles - Really?," NBER Working Papers 16862, National Bureau of Economic Research, Inc.
    6. CASTRO, Rui & CLEMENTI, Gian Luca & MACDONALD, Glenn, 2009. "Legal Institutions, Sectoral Heterogeneity, and Economic Development," Cahiers de recherche 09-2009, Centre interuniversitaire de recherche en économie quantitative, CIREQ.
    7. Tommaso Monacelli & Ester Faia, 2005. "Optimal Interest Rate Rules, Asset Prices and Credit Frictions," Computing in Economics and Finance 2005 452, Society for Computational Economics.
    8. Simeon Djankov & Oliver Hart & Caralee McLiesh & Andrei Shleifer, 2008. "Debt Enforcement around the World," Journal of Political Economy, University of Chicago Press, vol. 116(6), pages 1105-1149, December.
    9. Jae Sim & Egon Zakrajsek & Simon Gilchrist, 2010. "Uncertainty, Financial Frictions, and Investment Dynamics," 2010 Meeting Papers 1285, Society for Economic Dynamics.
    10. Simeon Djankov & Caralee McLiesh & Andrei Shleifer, 2005. "Private Credit in 129 Countries," NBER Working Papers 11078, National Bureau of Economic Research, Inc.
    11. Jappelli, Tullio & Pagano, Marco, 1991. "Information Sharing in Credit Markets," CEPR Discussion Papers 579, C.E.P.R. Discussion Papers.
    12. Evans, David S, 1987. "The Relationship between Firm Growth, Size, and Age: Estimates for 100 Manufacturing Industries," Journal of Industrial Economics, Wiley Blackwell, vol. 35(4), pages 567-81, June.
    13. King, Robert G. & Levine, Ross, 1993. "Finance, entrepreneurship and growth: Theory and evidence," Journal of Monetary Economics, Elsevier, vol. 32(3), pages 513-542, December.
    14. Warner, Jerold B, 1977. "Bankruptcy Costs: Some Evidence," Journal of Finance, American Finance Association, vol. 32(2), pages 337-47, May.
    15. Ben S. Bernanke, 1980. "Irreversibility, Uncertainty, and Cyclical Investment," NBER Working Papers 0502, National Bureau of Economic Research, Inc.
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