Research Discussion Papers, Bank of Finland
The adverse selection problem in imperfectly competitive credit markets
() and Timo Vesala
Abstract: We study the adverse selection problem in imperfectly
competitive credit markets and illustrate the circumstances where a
separating equilibrium emerges, even without collateral. The borrowers are
heterogeneous in their preferences concerning the banks. Separation obtains
in market segments where the ‘high risk’ borrowers receive credit from
their preferred bank. The ‘low risk’ borrowers choose the ex-ante
less-preferred bank that offers loan contracts with lower interest rates.
The availability of credit will be maximized under an intermediate level of
competition, a prediction that is supported by recent empirical
Keywords: asymmetric information; credit rationing; bank differentiation; (follow links to similar papers)
JEL-Codes: D43; D82; G21; L13; (follow links to similar papers)
27 pages, December 14, 2006
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