A Smoke Screen Theory of Financial Intermediation

Breton, Regis

doi:10.2139/ssrn.1282229

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A Smoke Screen Theory of Financial Intermediation

Regis Breton

University of Orleans

July 15, 2007

Paris December 2008 Finance International Meeting AFFI - EUROFIDAI

Abstract:
This paper explores the role of diversification and size in protecting information. We present a simple two period credit market with a sophisticated lender faced with competitors who free ride on his screening activity. Absent commitment problems, the lender funds one borrower and exerts optimal evaluation. When borrowers cannot commit to a long term relationship, the free riding problem is responsible for too little evaluation. We show how this problem can be mitigated by simultaneously financing several borrowers. This effect provides a rationale for intermediaries as an 'information garbling' device.

Number of Pages in PDF File: 31

Keywords: financial intermediation, informational rent, asymmetric information, free riding, diversification

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Date posted: October 13, 2008

Suggested Citation

Breton, Regis, A Smoke Screen Theory of Financial Intermediation (July 15, 2007). Paris December 2008 Finance International Meeting AFFI - EUROFIDAI . Available at SSRN: http://ssrn.com/abstract=1282229 or http://dx.doi.org/10.2139/ssrn.1282229

Contact Information

Regis Breton (Contact Author)

University of Orleans ( email )

Université d'Orléans,
Rue de Blois, B.P. 6739, 45
France