Contestability and collateral in credit markets with adverse selection
AbstractThe work discusses a basic proposition in the theory of competition in markets with adverse selection (Bester, 1985). By working out the sequence of market transactions, we show that the effectiveness of collateral in avoiding equilibrium rationing depends on an assumption of uncontestability of the loan market. If contestability is restored to its proper place, the separation of borrower by means of sufficient collateral does not impede the emergence of credit rationing, which results from a coordination failure among risk-neutral banks. As a consequence, even in a risk-neutral environment with suitable endowments, the use of collateral in credit contracts could not be a socially efficient screening-device. Our conclusion on rationing does not stand in contrast with the general result of Gale (1996).
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Bibliographic InfoPaper provided by University Library of Munich, Germany in its series MPRA Paper with number 26949.
Date of creation: 11 Oct 2010
Date of revision:
Adverse selection; Collateral; Rationing; Contestable markets;
Find related papers by JEL classification:
- L10 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - General
- D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
- 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-2010-12-04 (All new papers)
- NEP-BAN-2010-12-04 (Banking)
- NEP-CTA-2010-12-04 (Contract Theory & Applications)
- NEP-HPE-2010-12-04 (History & Philosophy of Economics)
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