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Skin in the Game and Moral Hazard

  • Chemla, Gilles
  • Hennessy, Christopher A.
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    What determines equilibrium securitization levels, and should they be regulated? To address these questions we develop a model where originators can exert unobservable effort to increase asset quality, subsequently having private information regarding quality when selling ABS to rational investors. In equilibrium, all originators have low/zero retentions if they are financially constrained and/or prices are su¢ ciently informative. Asymmetric information lowers effort incentives in all equilibria. Effort is promoted by junior retentions, investor sophistication, and informative prices. Optimal regulation promotes effort while accounting for investor-level externalities. It entails either a menu of junior retentions or a single junior retention with size decreasing in price informativeness. Mandated market opacity is only optimal amongst regulations failing to induce originator effort.

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    File URL: http://basepub.dauphine.fr/xmlui/bitstream/123456789/11540/1/CAHIER_FDD_56.pdf
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    Paper provided by Paris Dauphine University in its series Economics Papers from University Paris Dauphine with number 123456789/11540.

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    Date of creation: Jan 2013
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    Publication status: Published in Cahiers de la Chaire Finance et Développement Durable, 2013
    Handle: RePEc:dau:papers:123456789/11540
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    13. Hartman-Glaser, Barney & Piskorski, Tomasz & Tchistyi, Alexei, 2012. "Optimal securitization with moral hazard," Journal of Financial Economics, Elsevier, vol. 104(1), pages 186-202.
    14. Guillaume Plantin, 2011. "Good Securitization, Bad Securitization," IMES Discussion Paper Series 11-E-04, Institute for Monetary and Economic Studies, Bank of Japan.
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