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Imperfect Information Transmission from Banks to Investors: Macroeconomic Implications

Author

Listed:
  • Figueroa, Nicolás

    () (Instituto de Economía, Pontificia Universidad Católica de Chile)

  • Leukhina, Oksana

    () (Federal Reserve Bank of St. Louis)

  • Ramirez, Carlos

    (Federal Reserve Board)

Abstract

We study the interaction of information production in loan-backed asset markets and credit allocation in a general equilibrium framework. Originating banks can screen their borrowers, but can inform investors of their asset type only through an error-prone rating technology. The premium paid on highly rated assets emerges as the main determinant of screening effort. Because the rating technology is imperfect, this premium is insufficient to induce the efficient level of screening. However, the fact that banks know their asset quality and produce ratings accordingly helps keep the premium high. Mandatory rating, certified review, and mandatory ratings disclosure policies interfere with this decision margin, thereby reducing informativeness of high ratings, lowering the premium paid on them, and exacerbating the credit misallocation problem. We perform optimal policy analysis.

Suggested Citation

  • Figueroa, Nicolás & Leukhina, Oksana & Ramirez, Carlos, 2018. "Imperfect Information Transmission from Banks to Investors: Macroeconomic Implications," Working Papers 2018-18, Federal Reserve Bank of St. Louis, revised 01 Jul 2019.
  • Handle: RePEc:fip:fedlwp:2018-018
    DOI: doi.org/10.20955/wp.2018.018
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    References listed on IDEAS

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    More about this item

    Keywords

    credit misallocation; information asymmetry; information production; screening effort; rising asset complexity; mandatory rating; mandatory ratings disclosure;

    JEL classification:

    • G01 - Financial Economics - - General - - - Financial Crises
    • G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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