Bank Financing and Investment Decisions with Asymmetric Information
Banks know more about the quality of their assets than do outside investors. This informational asymmetry can distort investment decisions if the bank must raise funds from uninformed outsiders, and assets sold will be subject to a lemons discount. Using a three-period equilibrium model we examine the effect of asymmetric information about loan quality on the asset and liability decisions of banks and the market valuation of bank liabilities. The existence of a precautionary demand for T-bills against future liquidity needs depends both on the regulatory environment and the informational structure. If banks are ex ante identical, issuing risky debt to fund a deposit outflow is preferred to holding T-bills ex ante. However, if banks have partial knowledge of loan quality, and if their asset choice is observable, they may hold T-bills to signal their quality, enabling them to issue risky debt at a lower interest rate.
|Date of creation:||Oct 1987|
|Publication status:||published as Rand Journal of Economics 23, No. 1 Spring 1992, 86-105|
|Contact details of provider:|| Postal: National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.|
Web page: http://www.nber.org
More information through EDIRC
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.:
- Thakor, Anjan V., 1982.
"Toward a theory of bank loan commitments,"
Journal of Banking & Finance,
Elsevier, vol. 6(1), pages 55-83, March.
- Frost, Peter A, 1971. "Banks' Demand for Excess Reserves," Journal of Political Economy, University of Chicago Press, vol. 79(4), pages 805-825, July-Aug..
- Baltensperger, Ernst, 1974. "The Precautionary Demand for Reserves," American Economic Review, American Economic Association, vol. 64(1), pages 205-210, March.
- Koehn, Michael & Santomero, Anthony M, 1980. " Regulation of Bank Capital and Portfolio Risk," Journal of Finance, American Finance Association, vol. 35(5), pages 1235-1244, December.
- Joseph Stiglitz & Andrew Weiss, 1990. "Sorting Out the Differences Between Signaling and Screening Models," NBER Technical Working Papers 0093, National Bureau of Economic Research, Inc.
- Oliver D. Hart & Dwight M. Jaffee, 1974. "On the Application of Portfolio Theory to Depository Financial Intermediaries," Review of Economic Studies, Oxford University Press, vol. 41(1), pages 129-147.
- George A. Akerlof, 1970. "The Market for "Lemons": Quality Uncertainty and the Market Mechanism," The Quarterly Journal of Economics, Oxford University Press, vol. 84(3), pages 488-500. Full references (including those not matched with items on IDEAS)