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Collateral, Heterogeneity in Risk Attitude and the Credit Market Equilibrium

Author

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  • Coco, Guiseppe
Abstract
This paper examines the argument that the availability of collateral rules out credit rationing. A model of the credit market with ex-ante asymmetric information and heterogeneous entrepreneurs' attitudes towards risk is set up. It is shown that, due to the interplay between project choice and entrepreneurs' preferences, using collateral as a signal to screen safer projects may prove impossible. Instead, a partially-separating two-contracts equilibrium with rationing at one contract emerges. Contrary to previous theoretical research and consistently with conventional wisdom and systematic evidence, the use of collateral is never negatively correlated with project risk.

Suggested Citation

  • Coco, Guiseppe, 1997. "Collateral, Heterogeneity in Risk Attitude and the Credit Market Equilibrium," Discussion Papers 9702, University of Exeter, Department of Economics.
    • Handle: RePEc:exe:wpaper:9702
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    References listed on IDEAS

    as
    1. Besanko, David & Thakor, Anjan V., 1987. "Competitive equilibrium in the credit market under asymmetric information," Journal of Economic Theory, Elsevier, vol. 42(1), pages 167-182, June.
    2. de Meza, David & Southey, Clive, 1996. "The Borrower's Curse: Optimism, Finance and Entrepreneurship," Economic Journal, Royal Economic Society, vol. 106(435), pages 375-386, March.
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    5. Besanko, David & Thakor, Anjan V, 1987. "Collateral and Rationing: Sorting Equilibria in Monopolistic and Competitive Credit Markets," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 28(3), pages 671-689, October.
    6. Bester, Helmut, 1987. "The role of collateral in credit markets with imperfect information," European Economic Review, Elsevier, vol. 31(4), pages 887-899, June.
    7. Coco, Giuseppe, 1999. "Collateral, heterogeneity in risk attitude and the credit market equilibrium," European Economic Review, Elsevier, vol. 43(3), pages 559-574, March.
    8. David de Meza & David C. Webb, 1987. "Too Much Investment: A Problem of Asymmetric Information," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 102(2), pages 281-292.
    9. Boot, Arnoud W A & Thakor, Anjan V & Udell, Gregory F, 1991. "Secured Lending and Default Risk: Equilibrium Analysis, Policy Implications and Empirical Results," Economic Journal, Royal Economic Society, vol. 101(406), pages 458-472, May.
    10. Hellwig, Martin, 1987. "Some recent developments in the theory of competition in markets with adverse selection ," European Economic Review, Elsevier, vol. 31(1-2), pages 319-325.
    11. Stiglitz, Joseph E & Weiss, Andrew, 1981. "Credit Rationing in Markets with Imperfect Information," American Economic Review, American Economic Association, vol. 71(3), pages 393-410, June.
    12. Bester, Helmut, 1985. "Screening vs. Rationing in Credit Markets with Imperfect Information," American Economic Review, American Economic Association, vol. 75(4), pages 850-855, September.
    13. Berger, Allen N. & Udell, Gregory F., 1990. "Collateral, loan quality and bank risk," Journal of Monetary Economics, Elsevier, vol. 25(1), pages 21-42, January.
    14. Wette, Hildegard C, 1983. "Collateral in Credit Rationing in Markets with Imperfect Information: Note," American Economic Review, American Economic Association, vol. 73(3), pages 442-445, June.
    15. Chan, Yuk-Shee & Kanatas, George, 1985. "Asymmetric Valuations and the Role of Collateral in Loan Agreements," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 17(1), pages 84-95, February.
    Full references (including those not matched with items on IDEAS)

    Citations

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    Cited by:

    1. Yaldız Hanedar, Elmas & Broccardo, Eleonora & Bazzana, Flavio, 2014. "Collateral requirements of SMEs: The evidence from less-developed countries," Journal of Banking & Finance, Elsevier, vol. 38(C), pages 106-121.
    2. repec:bla:scotjp:v:49:y:2002:i:2:p:162-95 is not listed on IDEAS
    3. Xinhua Gu & Yang Zhang & Xiaolin Qian & Haizhen Guo, 2016. "The suspension of borrowing: an implicit penalty for loan default under imperfect information," Applied Economics, Taylor & Francis Journals, vol. 48(60), pages 5882-5896, December.
    4. Elmas Yaldiz Hanedar & Eleonora Broccardo & Flavio Bazzana, 2012. "Collateral Requirements of SMEs:The Evidence from Less–Developed Countries," Centro Studi di Banca e Finanza (CEFIN) (Center for Studies in Banking and Finance) 0034, Universita di Modena e Reggio Emilia, Dipartimento di Economia "Marco Biagi".
    5. Alberto Franco Pozzolo, 2004. "The role of guarantees in bank lending," Temi di discussione (Economic working papers) 528, Bank of Italy, Economic Research and International Relations Area.
    6. Giuseppe Coco & Giuseppe Pignataro, 2013. "Unfair credit allocations," Small Business Economics, Springer, vol. 41(1), pages 241-251, June.
    7. Giuseppe Coco & Giuseppe Pignataro, 2010. "Inequality of Opportunity in the Credit Market," SERIES 0026, Dipartimento di Economia e Finanza - Università degli Studi di Bari "Aldo Moro", revised Jan 2010.
    8. Jia, Fu & Blome, Constantin & Sun, Hui & Yang, Yang & Zhi, Bangdong, 2020. "Towards an integrated conceptual framework of supply chain finance: An information processing perspective," International Journal of Production Economics, Elsevier, vol. 219(C), pages 18-30.
    9. Niinimäki, Juha-Pekka, 2009. "Screening in the credit market when the collateral value is stochastic," Research Discussion Papers 19/2009, Bank of Finland.
    10. Fehn, Rainer, 1999. "Globalisierung und unvollkommene Kapitalmärkte: Verschärft die Knappheit international anerkannter Sicherheiten Länderkrisen?," Discussion Paper Series 29, Julius Maximilian University of Würzburg, Chair of Economic Order and Social Policy.
    11. G. Coco & G. Pignataro, 2012. "Wealth inequality, unequal opportunities and inefficient credit market," Working Papers wp851, Dipartimento Scienze Economiche, Universita' di Bologna.
    12. Aivazian, Varouj & Gu, Xinhua & Qiu, Jiaping & Huang, Bihong, 2015. "Loan collateral, corporate investment, and business cycle," Journal of Banking & Finance, Elsevier, vol. 55(C), pages 380-392.
    13. repec:zbw:bofrdp:2009_019 is not listed on IDEAS
    14. Wang, Yu-Lin, 2010. "Does collateral cause inefficient resource allocation?," Journal of Economics and Business, Elsevier, vol. 62(3), pages 220-233, May.
    15. Leonardo Becchetti & Melody Garcia, 2008. "Do collateral theories work in social banking ?," CEIS Research Paper 131, Tor Vergata University, CEIS, revised 07 Nov 2008.
    16. Karel Janda, 2003. "Credit guarantees in a credit market with adverse selection," Prague Economic Papers, Prague University of Economics and Business, vol. 2003(4), pages 331-349.
    17. Coco, Giuseppe, 1999. "Collateral, heterogeneity in risk attitude and the credit market equilibrium," European Economic Review, Elsevier, vol. 43(3), pages 559-574, March.
    18. Amedeo Argentiero, 2009. "Some New Evidence on the Role of Collateral: Lazy Banks or Diligent Banks?," ISAE Working Papers 113, ISTAT - Italian National Institute of Statistics - (Rome, ITALY).
    19. Coco, Giuseppe & Pignataro, Giuseppe, 2014. "The poor are twice cursed: Wealth inequality and inefficient credit market," Journal of Banking & Finance, Elsevier, vol. 49(C), pages 149-159.
    20. Niinimäki, Juha-Pekka, 2009. "Screening in the credit market when the collateral value is stochastic," Bank of Finland Research Discussion Papers 19/2009, Bank of Finland.
    21. Lofstrom, Magnus & Bates, Timothy & Parker, Simon C., 2014. "Why are some people more likely to become small-businesses owners than others: Entrepreneurship entry and industry-specific barriers," Journal of Business Venturing, Elsevier, vol. 29(2), pages 232-251.
    22. Coco, G. & Pignataro, G., 2011. "Perverse cross-subsidization in the credit market," Working Papers 11/01, Department of Economics, City University London.

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    More about this item

    Keywords

    Collateral; credit rationing;

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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