Financial Intermediation in Economies with Investment Complementarities
36 Pages Posted: 8 Jul 2016
Date Written: May 2016
When individual returns are increasing in the aggregate level of investment, decentralized individuals fail to internalize the positive externality of their investment on the return of others. This paper shows how financial intermediation mitigates this coordination failure for individuals with private information. When providing financial products with low risk, intermediaries induce investment by individuals with unfavorable private information. The increase in investment generates positive externalities, thereby raising social welfare and making banks socially desirable.
Keywords: Banking, Macroeconomics, Incomplete Information, Coordination, Complementarities, Externalities
JEL Classification: G21, E44, D82, C72, D62
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