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Asymmetric collateral requirements and output composition

Listed author(s):
  • Óscar Arce


    (Banco de España)

  • José Manuel Campa


    (IESE Business School)

  • Ángel Gavilán


    (Banco de España)

This paper studies how investment and production in an economy is allocated across sectors when they face asymmetric financial conditions. Namely, when investors in one sector may run projects with higher loan-to-values than in another sector. Investors decide where to invest based on total rents and face a trade-off. While they may run larger projects in the sector with the best financial conditions, unit rents in this sector are lower than in the other sector due to a pledgeability premium. The level of interest rates affects this trade-off and therefore investors' endogenous segmentation across sectors. The effect is non-monotonic. When interest rates are high, projects are small and the differences in unit rents across sectors dominate the differences in project sizes. In this case, a drop in interest rates, move investors toward the most productive sector. Instead, when interest rates are low, projects are large, but much larger in the sector with the best financial conditions. In this case, the differences in project sizes across sectors dominate the differences in unit rents and a drop in interest rates moves investors towards the least productive sector but with the best access to external funding. We find that this hump-shaped relationship between interest rates and the share of investors allocated to a given sector may translate into a similar hump-shaped relationship between interest rates and the ratio of aggregate investment across sectors. Instead, in a model without financial asymmetries across sectors both relationships are monotonic and do not exhibit a hump. We claim that this paper provides helpful insights to understand the pattern of sectoral reallocation of investment and production observed in some OECD countries recently.

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Paper provided by Banco de España & Working Papers Homepage in its series Working Papers with number 0837.

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Length: 35 pages
Date of creation: Feb 2009
Handle: RePEc:bde:wpaper:0837
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  1. Pol Antràs & Ricardo J. Caballero, 2009. "Trade and Capital Flows: A Financial Frictions Perspective," Journal of Political Economy, University of Chicago Press, vol. 117(4), pages 701-744, 08.
  2. Corden, W M, 1984. "Booming Sector and Dutch Disease Economics: Survey and Consolidation," Oxford Economic Papers, Oxford University Press, vol. 36(3), pages 359-380, November.
  3. Kiminori Matsuyama, 2008. "Aggregate Implications of Credit Market Imperfections," NBER Chapters,in: NBER Macroeconomics Annual 2007, Volume 22, pages 1-60 National Bureau of Economic Research, Inc.
  4. Morris A. Davis & Francois Ortalo-Magne, 2011. "Household Expenditures, Wages, Rents," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 14(2), pages 248-261, April.
  5. Kiminori Matsuyama, 2007. "Credit Traps and Credit Cycles," American Economic Review, American Economic Association, vol. 97(1), pages 503-516, March.
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