Asymmetric Collateral Requirements and Output Composition

35 Pages Posted: 2 Feb 2009

See all articles by Oscar Arce

Oscar Arce

Banco de España

José Manuel Campa

University of Navarra - Madrid Campus - IESE Business School; National Bureau of Economic Research (NBER)

Angel Gavilan Gonzalez

European Stability Mechanism

Date Written: February 2, 2009

Abstract

This paper studies how investment and production in an economy is allocated across sectors when they face asymmetric financial conditions. Namely, when investors in one sector may run projects with higher loan-to-values than in another sector. Investors decide where to invest based on total rents and face a trade-off. While they may run larger projects in the sector with the best financial conditions, unit rents in this sector are lower than in the other sector due to a pledgeability premium. The level of interest rates affects this trade-off and therefore investors' endogenous segmentation across sectors. The effect is non-monotonic. When interest rates are high, projects are small and the differences in unit rents across sectors dominate the differences in project sizes. In this case, a drop in interest rates, move investors toward the most productive sector. Instead, when interest rates are low, projects are large, but much larger in the sector with the best financial conditions. In this case, the differences in project sizes across sectors dominate the differences in unit rents and a drop in interest rates moves investors towards the least productive sector but with the best access to external funding. We find that this hump-shaped relationship between interest rates and the share of investors allocated to a given sector may translate into a similar hump-shaped relationship between interest rates and the ratio of aggregate investment across sectors. Instead, in a model without financial asymmetries across sectors both relationships are monotonic and do not exhibit a hump. We claim that this paper provides helpful insights to understand the pattern of sectoral reallocation of investment and production observed in some OECD countries recently.

Keywords: Investment and credit, pledgeability premium, collateral constraints, sectoral allocation, housing

JEL Classification: E22, E32, E44

Suggested Citation

Arce, Oscar and Campa, José Manuel and Gavilan Gonzalez, Angel, Asymmetric Collateral Requirements and Output Composition (February 2, 2009). Banco de Espana Working Paper No. 0837. Available at SSRN: https://ssrn.com/abstract=1336478 or http://dx.doi.org/10.2139/ssrn.1336478

Oscar Arce (Contact Author)

Banco de España ( email )

Alcala 50
Madrid 28014
Spain

José Manuel Campa

University of Navarra - Madrid Campus - IESE Business School ( email )

Camino del Cerro del Aguila 3
Madrid, 28023
Spain
+34 91 357 0809 (Phone)
+34 91 357 2913 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Angel Gavilan Gonzalez

European Stability Mechanism ( email )

6a Circuit de la Foire Internationale
L-1347
Luxembourg

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