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The social cost of playing by the rules in the credit market

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  • Distefano, Rosaria

Abstract

We present a model of the credit market under imperfect information, with a lender and many would-be entrepreneurs who need external funding for their projects. Some borrowers may have the incentive to divert part of the loan received to other, illegal or non-contractible, uses. We first show that the equilibrium is more likely to be efficient when there is a high proportion of potential diverters. Another result is that, if diversion output is included in the social well-being function, equilibrium welfare can be higher than under symmetric information. When there is inefficiency, a regulatory intervention can be welfare improving but, the cost and desirability of the policy depend on whether the proceeds from diversion are classified as a contribution to social welfare or not.

Suggested Citation

  • Distefano, Rosaria, 2022. "The social cost of playing by the rules in the credit market," MPRA Paper 115326, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:115326
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    More about this item

    Keywords

    loan diversion; entrepreneurial financing; imperfect information; policy intervention.;
    All these keywords.

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E50 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - General

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