Credit Markets and Real Economic Activity: A Model of Financial Intermediation

Posted: 22 Jul 1998

See all articles by Rafael Repullo

Rafael Repullo

Centre for Monetary and Financial Studies (CEMFI); Centre for Economic Policy Research (CEPR); European Corporate Governance Institute (ECGI)

Javier Suarez

Centre for Monetary and Financial Studies (CEMFI); Centre for Economic Policy Research (CEPR); European Corporate Governance Institute (ECGI)

Date Written: March 1995

Abstract

This paper considers a model of financial intermediation based on the existence of a moral hazard problem in the choice of investment projects by a heterogeneous population of entrepreneurs. Two alternative ways of funding these projects, called direct (or market) and monitored (or bank) finance, are analyzed. Under monitored finance the entrepreneurial moral hazard problem is ameliorated, in comparison to direct finance, at a certain cost. It is shown that entrepreneurs with large wealth relative to the size of the project will obtain direct finance, entrepreneurs with intermediate wealth will get monitored finance, and entrepreneurs with little wealth will be unable to obtain credit. The analysis sheds light on the validity of certain explanations of the empirical behaviour of short-term credit markets over the business cycle.

JEL Classification: G31

Suggested Citation

Repullo, Rafael and Suarez, Javier, Credit Markets and Real Economic Activity: A Model of Financial Intermediation (March 1995). Available at SSRN: https://ssrn.com/abstract=6947

Rafael Repullo

Centre for Monetary and Financial Studies (CEMFI) ( email )

Casado del Alisal 5
28014 Madrid
Spain
+34 91429 0551 (Phone)
+34 91429 1056 (Fax)

HOME PAGE: http://www.cemfi.es/~repullo/

Centre for Economic Policy Research (CEPR)

London
United Kingdom

European Corporate Governance Institute (ECGI)

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels
Belgium

HOME PAGE: http://www.ecgi.org

Javier Suarez (Contact Author)

Centre for Monetary and Financial Studies (CEMFI) ( email )

Casado del Alisal 5
28014 Madrid
Spain
+34 91 429 0551 (Phone)
+34 91 429 1056 (Fax)

Centre for Economic Policy Research (CEPR)

London
United Kingdom

European Corporate Governance Institute (ECGI)

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels
Belgium

HOME PAGE: http://www.ecgi.org

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