An Economic Rationale for the Pricing Structure of Bank Loan Commitments
An economic rationale is provided for the competitive equilibrium deployment of commitment and usage fees in loan commitment pricing. It is shown that, under perfect information, assessing both fees rather than just one permits optimal risk sharing. When the borrower is privately informed about its probability of future commitment utilization, commitment and usage fees can be used to induce borrowers to identify themselves by self-selection through contract choice. The equilibrium characterized here is dissipative and thus raises the usual existence questions which are addressed in the paper.
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