Banking (Conservatively) with Optimists

Posted: 10 Mar 1999

See all articles by Michael Manove

Michael Manove

Boston University - Department of Economics

Jorge Padilla

Compass Lexecon

Multiple version iconThere are 2 versions of this paper

Abstract

Commercial banks frequently encounter optimistic entrepreneurs whose perceptions are biased by wishful thinking. Bankers are left with a difficult screening problem: separating realistic entrepreneurs from optimists who may be clever, knowledgeable, and completely sincere. We build a game-theoretic model of the screening process. We show that although entrepreneurs may practice self-restraint to signal realism, competition may lead banks to be insufficiently conservative in their lending, thus reducing capital-market efficiency. High collateral requirements decrease efficiency further. We discuss bank regulation and bankruptcy rules in connection with the problems that optimistic entrepreneurs present.

JEL Classification: G21

Suggested Citation

Manove, Michael and Padilla, Jorge, Banking (Conservatively) with Optimists. RAND Journal of Economics, Vol. 30, no. 2. Available at SSRN: https://ssrn.com/abstract=150267

Michael Manove (Contact Author)

Boston University - Department of Economics ( email )

270 Bay State Road
Boston, MA 02215
United States
617-353-3299 (Phone)
617-353-4449 (Fax)

Jorge Padilla

Compass Lexecon ( email )

Paseo de la Castellana 7
Madrid, 28046
Spain

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