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Securitization, Ratings, and Credit Supply

53 Pages Posted: 20 Mar 2017 Last revised: 7 Oct 2017

Brendan Daley

University of Colorado, Boulder

Brett S. Green

University of California, Berkeley - Haas School of Business

Victoria Magdalena Vanasco

Stanford University

Date Written: October 6, 2017

Abstract

We develop a framework to explore the interaction between loan origination and securitization. In the model, banks privately screen and originate loans and then issue securities that are backed by loan cash flows. Issued securities are rated and sold to investors. We show that the availability of credit ratings (or other public information) increases the allocative efficiency of cash flows by reducing costly retention, but reduces lending standards and can lead to an oversupply of credit. These findings are in contrast to regulators' view of credit ratings as a disciplining device. Moreover, improved screening does not solve the problem; as banks' screening technology becomes more precise, their lending standards collapse and some (though not all) bad loans are deliberately originated. We use the model to explore several commonly proposed policies and provide conditions under which they increase efficiency. Finally, we consider extensions to allow for ratings shopping and manipulation.

Keywords: Loan Origination, Securitization, Credit Supply, Ratings

JEL Classification: G01, G21, G28

Suggested Citation

Daley, Brendan and Green, Brett S. and Vanasco, Victoria Magdalena, Securitization, Ratings, and Credit Supply (October 6, 2017). Stanford University Graduate School of Business Research Paper No. 17-26. Available at SSRN: https://ssrn.com/abstract=2937297

Brendan Daley

University of Colorado, Boulder ( email )

Campus Box 419
Boulder, CO
United States

Brett S. Green (Contact Author)

University of California, Berkeley - Haas School of Business ( email )

2220 Piedmont Avenue
Berkeley, CA ca 94720
United States
5105759980 (Phone)

HOME PAGE: http://faculty.haas.berkeley.edu/bgreen/

Victoria Magdalena Vanasco

Stanford University ( email )

Stanford, CA 94305
United States

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