Asymmetric Information, Credit Constraints and Investment : A General Equilibrium OLG Model

The aim of this paper is to study the effects of credit constraints on the equilibrium aggregate capital stock. Credit constraints are the consequence of asymmetric information and moral hazard on the credit markets. When the equilibrium interest rate is low, entrepreneurs may have the possibility to increase their profits at the expense of the banks by changing the allocation of the funds they borrowed. Because they cannot control directly the behaviour of the entrepreneurs, banks react by rationing credit in such a way that the incentive to cheat disappears. We examine the consequences of agents’ behaviours in a general equilibrium model with overlapping generations of consumers. Consumers live for two periods and fall in two categories : risk-averse pure-consumers, who supply their labour in the first period of their life and retire in the second ; risk-neutral consumer-entrepreneurs, who supply their labour in the first period of their life and start a risky business firm in the second. Banks are financial intermediaries wich channel the savings of pure-consumers to consumers-entrepreneurs and, by so doing, play the role of insurers to the former. We analyse in this setup the circumstances that will generate credit rationing and the consequences of the latter for the equilibrium capital stock and interest rate. It will be shown that these values can be smaller or larger than the equilibrium values that would be observed in a perfect information setup ; the result depends on the interest rate elasticity of pure consumers’ savings. We also discuss the consequences of government transfers and deficits.