Insider rates vs. outsider rates in lending
The presence of private information about a firm can affect the competition among potential lenders. In the Sharpe (1990) model of information asymmetry among lenders (with the von Thadden (2004) correction), an uninformed outside bank faces a winner’s curse when competing with an informed inside bank. This paper examines the model’s prediction for observed interest rates at an inside vs. outside bank. Although the outside bank wins more bad firms than the inside bank, the winner’s curse also causes the outside rate conditional on firm type to be lower in expectation than the inside rate conditional on firm type. I show analytically that the expected interest rate at the outsider can be either higher or lower than the expected interest rate at the insider, depending on the net of these two effects. Under the assumption that the banks split the firms in a tie bid, a numerical solution shows that the outside expected interest rate is higher than the inside expected interest rate for high quality borrower pools, but the outside expected interest rate is lower for low quality borrower pools.
|Date of creation:||2008|
|Date of revision:|
|Contact details of provider:|| Postal: 20th Street and Constitution Avenue, NW, Washington, DC 20551|
Web page: http://www.federalreserve.gov/
More information through EDIRC
|Order Information:||Web: http://www.federalreserve.gov/pubs/feds/fedsorder.html|
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Steven A. Sharpe, 1989.
"Asymmetric information, bank lending, and implicit contracts: a stylized model of customer relationships,"
Finance and Economics Discussion Series
70, Board of Governors of the Federal Reserve System (U.S.).
- Sharpe, Steven A, 1990. " Asymmetric Information, Bank Lending, and Implicit Contracts: A Stylized Model of Customer Relationships," Journal of Finance, American Finance Association, vol. 45(4), pages 1069-87, September.
- Rajan, Raghuram G, 1992. " Insiders and Outsiders: The Choice between Informed and Arm's-Length Debt," Journal of Finance, American Finance Association, vol. 47(4), pages 1367-400, September.
- Degryse, Hans & Van Cayseele, Patrick, 2000.
"Relationship Lending within a Bank-Based System: Evidence from European Small Business Data,"
Journal of Financial Intermediation,
Elsevier, vol. 9(1), pages 90-109, January.
- Hans Degryse & Partick Van cayseele, 1998. "Relationship Lending within a Bank-based System: Evidence from European Small Business Data," Working Papers Department of Economics ces9816, KU Leuven, Faculty of Economics and Business, Department of Economics.
When requesting a correction, please mention this item's handle: RePEc:fip:fedgfe:2008-36. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Marlene Vikor)
If references are entirely missing, you can add them using this form.