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Financial Intermediation, Moral Hazard, And Pareto Inferior Trade

Author

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  • Hansen, Bodil Olai

    (Department of Economics, Copenhagen Business School)

  • Keiding, Hans

    (Department of Economics, Copenhagen Business School)

Abstract

We consider a simple model of international trade under uncertainty, where production takes time and is subject to uncertainty. The riskiness of production depends on the choices of the producers, not observable to the general public, and these choices are influenced by the availability and cost of credit. If investment is financed by a bond market, then a situation may arise where otherwise identical countries end up with different levels of interest and different choices of technique, which again implies differences in achieved level of welfare. Under suitable conditions on the parameters of the model, the market may not be able to supply credits to one of the countries. The introduction of financial intermediaries with the ability to control the debtors may change this situation in a direction which is welfare improving (in a suitable sense) by increasing expected output in the country with high interest rates, while opening up for new problems of asymmetric information with respect to the monitoring activity of the banks.

Suggested Citation

  • Hansen, Bodil Olai & Keiding, Hans, 2006. "Financial Intermediation, Moral Hazard, And Pareto Inferior Trade," Working Papers 07-2004, Copenhagen Business School, Department of Economics.
  • Handle: RePEc:hhs:cbsnow:2004_007
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    File URL: http://openarchive.cbs.dk/cbsweb/handle/10398/7498
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    References listed on IDEAS

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    1. Diamond, Douglas W, 1991. "Monitoring and Reputation: The Choice between Bank Loans and Directly Placed Debt," Journal of Political Economy, University of Chicago Press, vol. 99(4), pages 689-721, August.
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    3. Douglas W. Diamond & Philip H. Dybvig, 2000. "Bank runs, deposit insurance, and liquidity," Quarterly Review, Federal Reserve Bank of Minneapolis, pages 14-23.
    4. Anke Hoeffler & Catherine A Pattillo & Paul Collier, 1999. "Flight Capital as a Portfolio Choice," IMF Working Papers 99/171, International Monetary Fund.
    5. Tornell, Aaron & Velasco, Andes, 1992. "The Tragedy of the Commons and Economic Growth: Why Does Capital Flow from Poor to Rich Countries?," Journal of Political Economy, University of Chicago Press, vol. 100(6), pages 1208-1231, December.
    6. David M. G. Newbery & Joseph E. Stiglitz, 1984. "Pareto Inferior Trade," Review of Economic Studies, Oxford University Press, vol. 51(1), pages 1-12.
    7. Langley, Suchada V. & Mohanty, Samarendu & Giugale, Marcelo M. & Meyers, William H., 2002. "Exchange Rate Volatility and Agricultural Trade," Staff General Research Papers Archive 10262, Iowa State University, Department of Economics.
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    9. Sebastian Galiani & Daniel Heymann & Mariano Tommasi, 2003. "Great Expectations and Hard Times: The Argentine Convertibility Plan," ECONOMIA JOURNAL OF THE LATIN AMERICAN AND CARIBBEAN ECONOMIC ASSOCIATION, ECONOMIA JOURNAL OF THE LATIN AMERICAN AND CARIBBEAN ECONOMIC ASSOCIATION, vol. 0(Spring 20), pages 109-160, January.
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    11. Michael Mussa, 2002. "Argentina and the Fund: From Triumph to Tragedy," Peterson Institute Press: Policy Analyses in International Economics, Peterson Institute for International Economics, number pa67, February.
    12. Clark, Ephraim & Jokung, Octave, 1998. "Risk Aversion, Wealth and International Capital Flows," Review of International Economics, Wiley Blackwell, vol. 6(3), pages 507-515, August.
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    More about this item

    Keywords

    Capital outflow; financial intermediaries; moral hazard;

    JEL classification:

    • D92 - Microeconomics - - Micro-Based Behavioral Economics - - - Intertemporal Firm Choice, Investment, Capacity, and Financing
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • F36 - International Economics - - International Finance - - - Financial Aspects of Economic Integration

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