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|Title: ||A LENDER-BASED THEORY OF COLLATERAL|
|Authors: ||Inderst, Roman|
Müller, Holger M.
|Issue Date: ||Mar-2004 |
|Series/Report no.: ||S-CDM-04-04|
|Abstract: ||We offer a novel explanation for the use of collateral based on the dual
function of banks to provide credit and assess the borrower’s
credit risk. There is no moral hazard or adverse selection on the part
of borrowers–the only inefficiency is that banks cannot
contractually commit to providing credit as their credit assessment is
subjective. Without collateral, a bank may deny credit even if its
credit assessment suggests that the project is marginally profitable.
Collateral improves the bank’s payoffs from financing such
marginally profitable projects, thus mitigating the inefficiency arising
from discretionary credit decisions. Unlike models of borrower adverse
selection, our model suggests that high-quality borrowers post less
collateral than low-quality borrowers, which is consistent with the
|Appears in Collections:||Credit & Debt Markets|
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