Agency and Information Asymmetry Issues in Structural Credit Models: Evidences from Bank Industry

60 Pages Posted: 27 Mar 2008

See all articles by Hsien-Hsing Liao

Hsien-Hsing Liao

National Taiwan University

Tsung-Kang Chen

National Chiao Tung University

Chia-Wu Lu

National Taiwan University - Department of Finance

Abstract

We empirically examine the agency and information asymmetry issues in structural credit models using commercial bank data from 2001 to 2005. We find five independent information asymmetry and agency issue related factors that can explain absolute differences in the default probabilities estimated by various structural models and that implied by credit rating from 45.5% to 77.7%. They include the factors of management-equity agency problem - free cash flow hypothesis, debt-equity agency problem, Information asymmetry, management-equity agency problem - cost efficiency and debt-equity agency problem caused by adverse wealth transfers. These factors are scarcely discussed in literature and should be incorporated into credit modeling. Different from previous empirical literature, we also find that, except the Collin-Dufresne and Goldstein (2001), the other three models underestimate default probabilities on average and the one with dynamic interest rate setting, the Longstaff and Schwartz (1995), performs the best because it takes into consideration of interest dynamics which is crucial for bank operations.

Keywords: Credit Risk, Structural Form Models, Commercial Banks, Agency Problems, Information Asymmetry

JEL Classification: G21, G33

Suggested Citation

Liao, Hsien-Hsing and Chen, Tsung-Kang and Lu, Chia-Wu, Agency and Information Asymmetry Issues in Structural Credit Models: Evidences from Bank Industry. Available at SSRN: https://ssrn.com/abstract=1108851 or http://dx.doi.org/10.2139/ssrn.1108851

Hsien-Hsing Liao (Contact Author)

National Taiwan University ( email )

1 Sec. 4, Roosevelt Road
Taipei, 106
Taiwan

Tsung-Kang Chen

National Chiao Tung University ( email )

No. 1001, Dasyue Rd., East Dist.,
Hsinchu City, 300
Taiwan

Chia-Wu Lu

National Taiwan University - Department of Finance ( email )

1 Sec. 4, Roosevelt Road
Taipei, 106
Taiwan

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