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Financial Collusion and Over-Lending

  • Jinyoung Hwang

    (Korea University)

  • Neville Nien-Heui Jiang

    ()

    (Department of Economics, Vanderbilt University)

  • Ping Wang

    ()

    (Department of Economics, Vanderbilt University, NBER)

We build a model consisting of a borrowing firm, a lending institution (bank), and a third party influencing loan decision-making (auditor/government regulator) where a low-type firm can bribe the auditor to file an untruthful report about its true type so as to obtain a loan from the bank to finance a risky project. The main finding is that, depending on the economic environment, the bank may or may not want to deter such a collusion. This implies there may be a sudden shift from a collusion to a no-collusion equilibrium as the economic environment deteriorates. The combination of noticeable gradual deterioration in fundamentals and expectations of a sudden equilibrium-shift can trigger aggressive speculative attacks and passive withdrawals of investments even before the actual equilibrium-shift takes place. We apply this hypothesis to the case of the 1997 Korean financial crisis that features a severe over-lending problem.

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File URL: http://www.accessecon.com/pubs/VUECON/vu02-w29R.pdf
File Function: Revised version, 2003
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Paper provided by Vanderbilt University Department of Economics in its series Vanderbilt University Department of Economics Working Papers with number 0229.

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Date of creation: Sep 2002
Date of revision: Oct 2003
Handle: RePEc:van:wpaper:0229
Contact details of provider: Web page: http://www.vanderbilt.edu/econ/wparchive/index.html

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