The Separating Role of Collateral Requirements in Credit Markets with Asymmetric Information
U of Valencia LINEEX Working Paper No. 23/01
33 Pages Posted: 14 Sep 2001
Date Written: May 2001
In this paper we test Bester's (1985, 1987) prediction about the separating role of contracts that involve both interest rates and collateral requirements in credit markets. To test this prediction we use data from natural credit markets and controlled experiments. Using a sample of credits to small and medium size firms in Valencia, Spain, we relate two different types of contracts with the ex post risk type of the borrower and other relevant variables. We then design two incentive compatible contracts and analyze decisions under two different experimental treatments, one with moral hazard. Our empirical results confirm that borrowers of ex post lower risk choose contracts with higher collateral and lower interest rate. However, we find evidence that the existence of moral hazard could reduce separation.
Keywords: Credit Markets, Incentive Compatible Contracts, Asymmetric Information, Moral Hazard, Experiments
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