Wealth, Endogenous Collateral Quality, and Financial Crises

101 Pages Posted: 19 Dec 2018 Last revised: 11 Jun 2021

See all articles by Zehao Liu

Zehao Liu

Renmin University of China - School of Finance

Andrew Sinclair

California Institute of Technology

Date Written: May 17, 2021

Abstract

Markets with wealthier lenders experience more severe financial crises. To investigate this puzzle, we propose a model of collateralized lending in which: (1) borrowers endogenously determine collateral quality, and (2) lenders can produce costly information about collateral. When lenders are wealthier, borrowers use lower quality collateral to suppress costly information production, however, lower collateral quality in turn leads to more severe financial crises. Empirically, we find a negative relation between wealth and collateral quality, and during crises, wealth is negatively related to loan growth, investment, productivity, and output, with evidence that the effect of wealth goes through the collateral channel.

Keywords: Collateral Quality, Financial Crises, Crisis Severity, Information Acquisition, Wealth

JEL Classification: D83, E32, E44, G01

Suggested Citation

Liu, Zehao and Sinclair, Andrew, Wealth, Endogenous Collateral Quality, and Financial Crises (May 17, 2021). Available at SSRN: https://ssrn.com/abstract=3286494 or http://dx.doi.org/10.2139/ssrn.3286494

Zehao Liu (Contact Author)

Renmin University of China - School of Finance ( email )

Ming De Main Building
Renmin University of China
Beijing, Beijing 100872
China

HOME PAGE: http://sites.google.com/view/zehaoliu/home

Andrew Sinclair

California Institute of Technology ( email )

United States

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