FREE ELECTRONIC LIBRARY - Thesis, documentation, books

Pages:     | 1 |   ...   | 6 | 7 || 9 |

«IZA DP No. 4351 Reputation and Credit Market Formation: PAPER How Relational Incentives and Legal Contract Enforcement Interact Ernst Fehr DISCUSSION ...»

-- [ Page 8 ] --

Step 2 (project choice and repayments of selfish borrowers):

Since period 2 is the final period selfish borrowers behave exactly as in a one-shot interaction:

whenever they succeed in getting a contract they maximize their period profit by choosing project B. Thus, if a selfish borrower gets a contract (pd = A, rd = rt) in period 2, his expected profit is E[πB] = wB(RB – rt). If he gets a contract (pd = B, rd = rs) his expected profit is identical to his outside option E[πB] = wB(RB – rs) = b.

In period 1 the situation is different. Assume that a selfish borrower has accepted a contract (pd = A, rd = rt). Since project A has a higher success probability, choosing project A may make sense if the lender conditions the probability with which he offers another contract of the form (pd = A, rd = rt) to his borrower in period 2 on the borrower’s repayment behavior.

Define m(r) as the probability with which a lender renews his contract with his borrower in period 2 after observing the repayment r in period 1. After a repayment r in period 1 a selfish borrower’s continuation payoff for period 2 is: V(r) = m(r)wB(RB – rt) + (1 – m(r))b. This implies that a selfish borrower is willing to choose project A if the following project choice condition is satisfied: wB(RB – rt) – wA(RA – rt) ≤ (wA – wB)(V(rt) – V(0)), where the difference in continuation payoffs can be rewritten as V(rt) – V(0) = (m(rt) – m(0))( wB(RB – rt)– b).

The lenders’ contract renewal probabilities given in Proposition A3 imply that the project choice condition is satisfied with equality, i.e., a selfish borrower is indifferent between project A and project B. Accordingly, any probability z ∈ [0,1] of choosing project A is optimal.

Step 3: Sequential Rationality and Credit Contract Offers of Lenders

Sequential rationality requires that a lender’s belief y about the trustworthiness of a borrower is defined at every information structure in the game. The initial prior, that is the probability that a lender assigns to the event that an unknown borrower is trustworthy, is given by the population fraction of trustworthy borrowers: y(∅) = x. If a lender interacts with a borrower in period 1 he updates his belief about the trustworthiness of this borrower based on the observed repayment using Bayes’ Rule. Accordingly, the lender’s belief after a repayment of r = rt is given by y(rt) = wAx / [wA(x + (1 – x)z) + wB(1 – x)(1 – z)], while the lender’s belief after default (r = 0) is y(0) = (1 – wA)x / [(1 – wA)(x + (1 – x)z) + (1 – wB)(1 – x)(1 – z)].

Let us now turn to the credit offers of lenders. In period 2 lenders anticipate that borrowers face the same incentives as in a one-shot interaction. Accordingly, a lender is only willing to make a credit offer to a specific borrower if his belief about this borrower satisfies the condition: y wB(rs – rt) / (wA – wB)rt (see above). Since we assume that the population fraction of trustworthy borrowers satisfies x wB(rs – rt) / (wA – wB)rt, a borrower who does not repay in period 1 does not get a renewed contract from his lender in period 2. The reason is that the lender’s belief cannot satisfy the required condition: y(0) ≤ x wB(rs – rt) / (wA – wB)rt. This implies that the contract renewal probability after default is zero: m(0) = 0.

In order to get a credit offer after repaying in period 1 the selfish borrower's probability of choosing project A has to be low enough such that the lender's updated belief at the beginning of period 2 has at least increased to the necessary threshold value: y(rt) ≥ wB(rs – rt) / (wA – wB)rt. This yields the following condition for the selfish borrower’s probability of choosing the project B: z ≤ [wA(wA – wB)xrt – wB(xwA + (1 – x)wB) (rs – rt)] / [wB(wA – wB)(1 – x)(rs – rt)] 1. Given that m(0) = 0 the project choice condition from Step 2 implies that this repayment probability can only be best response of a selfish borrower if the lender’s contract renewal probability after repayment is given by m(rt) = [wB(RB – rt) – wA(RA – rt)] / [(wA – wB)(wB(RB – rt) – b)]. However, this contract renewal probability can only be a best response of the lender, if the lender is indifferent between offering the contract (pd = A, rd = rt) to his incumbent borrower and making a public credit offer of the form (pd = B, rd = rs).

Accordingly, the lender’s belief must be exactly at the threshold level, i.e., y(rt) = wB(rs – rt) / (wA – wB)rt. This, in turn, implies that z = [wA(wA – wB)xrt – wB(xwA + (1 – x)wB) (rs – rt)] / [wB(wA – wB)(1 – x)(rs – rt)]. Furthermore, in period 1 lenders are only willing to offer a contract of the form (pd = A, rd = rt) if the total fraction of borrowers who choose project A ensures that they are at least indifferent between offering this contract and offering the contract (pd = B, rd = rs). This requires that the following condition holds: [wA(x + (1 – x)z) + wB(1 – x)(1 – z)]rt ≥ wBrs. Given the repayment behavior of selfish borrowers in period 1 this condition can only be satisfied if the initial fraction of trustworthy borrowers is not too low: x ≥ (wB)2rs(rs – rt) / wA(wA – wB)(rt)2. s


Ai, Chunrong, and Edward Norton, 2003, Interaction Terms in Logit and Probit Models, Economics Letters 80 1,123–129 Ang, James S., and Thomas Schwarz, 1985, Risk Aversion and Information Structure: An Experimental Study of Price Variability in the Securities Markets, Journal of Finance 40 3, 825-44.

Baker, George, Robert Gibbions, and Kevin J. Murphy, 1994, Subjective Performance Measures in Optimal Incentive Contracts, Quarterly Journal of Economics, 109 6, 1125-1156.

Bellemare, Charles, and Sabine Kröger, 2007, On Representative Social Capital, European Economic Review 51 1, 183-202.

Bellemare, C., Kröger, S, van Soest, A., 2008, Measuring Inequity Aversion in a Heterogeneous Population using Experimental Decisions and Subjective Probabilities, Econometrica 76 4, 815-839.

Berger, Allen N., and Gregory F. Udell, 1995, Relationship Lending and Lines of Credit in Small Firm Finance, Journal of Business 68 3, 351-81.

Bolton, Gary, and Axel Ockenfels, 2000, ERC - A Theory of Equity, Reciprocity and Competition”, American Economic Review 90 1, 166-193.

Boot, Arnoud W. A., 2000, Relationship Banking: What Do We Know?, Journal of Financial Intermediation 9 1, 7-25.

Boot, Arnoud W. A., and Anjan V. Thakor, 2000, Can Relationship Banking Survive Competition?, Journal of Finance 55 2, 679-713.

Brown, Martin, Armin Falk, and Ernst Fehr, 2004, Relational Contracts and the Nature of Market Interactions, Econometrica 72 3, 747-80.

Brown, Martin, and Christian Zehnder, 2007, Credit Reporting, Relationship Banking, and Loan Repayment, Journal of Money, Credit and Banking 39 8, 1883-1918.

Burrell, O. K., 1951, Possibility of an Experimental Approach to Investment Studies, The Journal of Finance 6 2, 211-219.

Camerer, Colin, 2003. Behavioral Game Theory: Experiments in Strategic Interaction (Princeton University Press, Princeton).

Charness, Gary, and Matthew Rabin, 2002, Understanding Social Preferences with Simple Tests, Quarterly Journal of Economics 117 3, 817-69.

Copeland, Thomas E., and Daniel Friedman, 1987, The Effect of Sequential Information Arrival on Asset Prices: An Experimental Study, Journal of Finance 42 3, 763-97.

Copeland, Thomas E., and Daniel Friedman, 1991, Partial Revelation of Information in Experimental Asset Markets, Journal of Finance 46 1, 265-95.

Degryse, Hans, and Steven Ongena, 2005, Distance, Lending Relationships, and Competition, Journal of Finance 60 1, 231-66.

Diamond, Douglas W., 1989, Reputation Acquisition in Debt Markets, Journal of Political Economy 97 4, 828-62.

Djankov, Simeon, Caralee McLiesh, and Andrei Shleifer, 2007, Private Credit in 129 Countries, Journal of Financial Economics 84 2, 299-329.

Djankov, Simeon, Oliver Hart, Caralee McLiesh, and Andrei Shleifer, 2008, Debt Enforcement around the World, Journal of Political Economy 116 6, 1105-1149.

Dufwenberg, Martin, and Georg Kirchsteiger, 2004, A Theory of Sequential Reciprocity, Games and Economic Behavior 47 2, 268-98.

Falk, Armin, and Urs Fischbacher, 2006, A Theory of Reciprocity, Games and Economic Behavior 54 2, 293-315.

Fehr, Ernst, Urs Fischbacher, Jürgen Schupp, Bernhard von Rosenbladt, and Gert Wagner, 2002, A Nation-Wide Laboratory: Examining Trust and Trustworthiness by

Integrating Behavioral Experiment into Representative Surveys, Schmollers Jahrbuch:

Zeitschrift fur Wirtschafts- und Sozialwissenschaften/Journal of Applied Social Science Studies 122 4, 519-42.

Fehr, Ernst, and Simon Gächter, 2000, Fairness and Retaliation: The Economics of Reciprocity, Journal of Economic Perspectives 14 3, 159-81.

Fehr, Ernst, and Klaus M. Schmidt, 1999, A Theory of Fairness, Competition, and Cooperation, Quarterly Journal of Economics 114 3, 817-68.

Fischbacher, Urs, 2007, Z-Tree: Zurich Toolbox for Ready-Made Economic Experiments, Experimental Economics 10 2, 171-78.

Fudenberg, Drew, and Eric Maskin, 1986, The Folk Theorem in Repeated Games with Discounting or with Incomplete Information, Econometrica 54 3, 533-54.

Gneezy, Uri, Arie Kapteyn, and Jan Potters, 2003, Evaluation Periods and Asset Prices in a Market Experiment, Journal of Finance 58 2, 821-37.

Greiner, Ben, 2004, An Online Recruiting System for Economic Experiments, in Kurt Kremer, Volker Macho (Eds.): Forschung und wissenschaftliches Rechnen 2003.

GWDG Bericht 63, Göttingen: Ges. für Wiss. Datenverarbeitung, 79-93.

Haigh, Michael S., and John A. List, 2005, Do Professional Traders Exhibit Myopic Loss Aversion? An Experimental Analysis, Journal of Finance 60 1, 523-34.

Haruvy, Ernan, and Charles N. Noussair, 2006, The Effect of Short Selling on Bubbles and Crashes in Experimental Spot Asset Markets, Journal of Finance 61 3, 1119-57.

Jaffee, Dwight M., and Thomas Russell, 1976, Imperfect Information, Uncertainty, and Credit Rationing, Quarterly Journal of Economics 90 4, 651-66.

Jappelli, Tullio, and Marco Pagano, 2002, Information Sharing, Lending and Defaults: CrossCountry Evidence, Journal of Banking and Finance 26 10, 2017-45.

Jappelli, Tullio, Marco Pagano, and Magda Bianco, 2005, Courts and Banks: Effects of Judicial Enforcement on Credit Markets, Journal of Money, Credit, and Banking 37 2, 223-44.

Kluger, Brian D., and Steve B. Wyatt, 2004, Are Judgment Errors Reflected in Market Prices and Allocations? Experimental Evidence Based on the Monty Hall Problem, Journal of Finance 59 3, 969-97.

Kreps, David M., Paul R. Milgrom, John Roberts, and Robert Wilson, 1982, Rational Cooperation in the Finitely Repeated Prisoners' Dilemma, Journal of Economic Theory 27 2, 245-52.

Lamoureux, Christopher G., and Charles R. Schnitzlein, 1997, When It's Not the Only Game in Town: The Effect of Bilateral Search on the Quality of a Dealer Market, Journal of Finance 52 2, 683-712.

LaPorta, Rafael, and Florencio Lopez de-Silanes, 1998, Capital Markets and Legal Institutions, in Shahid Burki and Guillermo Perry (Eds.): Beyond the Washington Consensus: Institutions Matter, The World Bank, Washington D.C.

LaPorta, Rafael, Florencio Lopez de-Silanes, Andrei Shleifer, and Robert W. Vishny, 1997, Legal Determinats of External Finance, Journal of Finance 52 3, 1131-50.

Lerner, Josh, and Antoinette Schoar, 2005, Does Legal Enforcement Affect Financial Transactions? The Contractual Channel in Private Equity, The Quarterly Journal of Economics, 120 1, 223-246.

O'Brien, John, and Sanjay Srivastava, 1991, Dynamic Stock Markets with Multiple Assets:

An Experimental Analysis, Journal of Finance 46 5, 1811-38.

Ongena, Steven, and David C. Smith, 2000, What Determines the Number of Bank Relationships? Cross-Country Evidence, Journal of Financial Intermediation 9 1, 26Ongena, Steven, and David C. Smith, 2001, The Duration of Bank Relationships, Journal of Financial Economics 61 3, 449-75.

Pagano, Marco, and Tullio Jappelli, 1993, Information Sharing in Credit Markets, Journal of Finance 48 5, 1693-1718.

Petersen, Mitchell A., and Raghuram G. Rajan, 1994, The Benefits of Lending Relationships:

Evidence from Small Business Data, Journal of Finance 49 1, 3-37.

Rabin, Matthew, 1993, Incorporating Fairness into Game Theory and Economics, American Economic Review 83 5, 1281-1302.

Rajan, Raghuram G., and Luigi Zingales, 1995, What Do We Know about Capital Structure?

Some Evidence from International Data, Journal of Finance 50 5, 1421-60.

Schnitzlein, Charles R., 1996, Call and Continuous Trading Mechanisms under Asymmetric Information: An Experimental Investigation, Journal of Finance 51 2, 613-36.

Sobel, Joel, 1985, A Theory of Credibility, Review of Economic Studies 52 4, 557-73.

Sobel, Joel, 2005, Interdependent Preferences and Reciprocity, Journal of Economic Literature 93 2, 392-436.

Sobel, Joel, 2006, For Better of Forever: Formal versus Informal Enforcement, Journal of Labor Economics, 24 2, 271-297.

Stiglitz, Joseph E., and Andrew Weiss, 1981, Credit Rationing in Markets with Imperfect Information, American Economic Review 71 3, 393-410.

Vercammen, James A., 1995, Credit Bureau Policy and Sustainable Reputation Effects in Credit Markets, Economica 62 248, 461-78.


–  –  –

The table displays the characteristics of the two projects available to borrowers.

Project A has a high probability of success and maximizes the expected returns on investment. Project B is an inefficient high-risk project. Due to limited liability and wealth constraints Project B can be attractive to borrowers when they plan or have to make a positive repayment in case of project success.

–  –  –

Pages:     | 1 |   ...   | 6 | 7 || 9 |

Similar works:

«BIBLIOGRAPHY ON ‘CRIMES OF HONOUR’ – CASE SUMMARIES Preface This bibliography has been prepared under the auspices of the Project on “Strategies of Response to Crimes of ‘Honour’”, jointly co-ordinated by CIMEL (Centre of Islamic and Middle Eastern Law) and INTERIGHTS (International Centre for the Legal Protection of Human Rights) and has been slightly updated in September 2006. It includes case summaries from several countries (Australia, Bangladesh, India, Pakistan, the UK and...»

«VISA 2016/103461-4353-0-PC L'apposition du visa ne peut en aucun cas servir d'argument de publicité Luxembourg, le 2016-05-26 Commission de Surveillance du Secteur Financier Prospectus May 2016 Deutsche Bank INTRODUCTION General db x-trackers (the Company) is registered in the Grand Duchy of Luxembourg as an undertaking for collective investment pursuant to Part I of the Luxembourg law of 17 December 2010 relating to undertakings for collective investment, as may be amended (the Law). The...»

«STATE OF MINNESOTA IN SUPREME COURT A14-0213 Original Jurisdiction Per Curiam Took no part, Hudson, J. In re Petition for Disciplinary Action against Christopher Robert Walsh, a Minnesota Attorney, Filed: December 23, 2015 Registration No. 199813. Office of Appellate Courts _ Martin A. Cole, Director, Timothy M. Burke, Senior Assistant Director, Office of Lawyers Professional Responsibility, Saint Paul, Minnesota, for petitioner. John G. Westrick, Saint Paul, Minnesota, for respondent....»

«Enforcement Instructions and Guidance Chapter 38 – Role of the custody officer Index Introduction 38. The right not to be held incommunicado 38.1. The right to legal advice 38.2. Communication with and notification to High Commissions, Embassies and 38.3. Consulates where PACE Codes of Practice apply Communication where PACE Codes of Practice do not apply 38.4. Cautions 38.5. Written statements under caution 38.6. Statement written by a person under caution 38.7. Statement written by an IO or...»

«MEMORANDUM To: All Students From: Career Development Office (CDO) Date: December 2011 Re: Spring 2012 On-Campus Interview Program Guide IMPORTANT DATES FOR SPRING 2012 INTERVIEWS Interview Notification Session Bidding Opens Bidding Closes and Signups SESSION I Wednesday, Jan. 11 Tuesday, Jan. 17 Wednesday, Jan. 25, 6 a.m. CST – 6 a.m. CST 11:59 p.m. CST Interview dates: Thursday, Jan. 26, Jan. 30 – Feb. 10 11:59 p.m. CST SESSION II Tuesday, Jan. 24 Sunday, Jan. 29 Tuesday, Feb. 7, 6 a.m....»

«1 Table of Contents PART 1 GENERAL PROVISIONS 1 Citation 2 Definition of “Act” 3 Areas 4 Sending documents 5 Disclosure of information PART 2 BOARD, LEGAL AID COMMITTEE AND AREA LEGAL AID COMMITTEES 6 Remuneration and expenses 7 Legal Aid Committee 8 Area legal aid committees 9 Information PART 3 APPLICATION FOR LEGAL AID SERVICES 10 Definitions child — enfant dependant — personne à charge spouse — conjoint 11 Contribution 12 Calculation of income 13 Household size 14 Security for...»

«STATE OF RHODE ISLAND AND PROVIDENCE PLANTATIONS PROVIDENCE, SC SUPERIOR COURT WALTER DAVIS : : v. : C.A. No. 00-2848 :STATE OF RHODE ISLAND : DEPARTMENT OF CORRECTIONS, : STATE MARSHALS : DECISION GIBNEY J. This case is before the Court on appeal from a May 12, 2000 decision of a Hearing Committee impaneled pursuant to the Law Enforcement Officer’s Bill of Rights, G.L. 1956 (1995 Reenactment) § 42-28.6-1 et seq. Jurisdiction is pursuant to § 42-28.6-12 (1995 Reenactment). Facts/Travel This...»

«Roxio Easy VHS to DVD for Mac Getting Started Guide Roxio Easy VHS to DVD for Mac Getting Started Guide ii www.roxio.com Legal Information Copyright © 1994-2009 Sonic Solutions. All rights reserved. Use of this product is subject to your agreement to all of the terms of each of the license agreements included in this package. This product may be protected by one or more US and/or foreign patents, including certain patents that may be listed at www.sonic.com/innovation/patents. Trademarks...»

«\\jciprod01\productn\M\MIA\67-2\MIA202.txt unknown Seq: 1 30-JAN-13 11:50 ARTICLES Study, Support, and Save: Teaching Sensitivity in the Law School Death Penalty Clinic SARAH MOURER* I. INTRODUCTION...................................................... 357 R II. GOALS AND MISSION: THE THREE S’ OF THE DEATH PENALTY CLINIC........ 360 R III. STRUCTURE: HOW TO BUILD A DEATH PENALTY CLINIC.................... 364 R...»

«Internal financial controls for charities July 2012 Contents 1. Introduction 2 2. Some key issues, monitoring arrangements and the risk from financial crime 5 3. Internal financial controls in practice income 12 4. Internal financial controls in practice purchases, payments and loans 16 5. Internal financial controls in practice assets and investments 23 6. Further information, advice and resources 28 Internal financial controls for charities (CC8) 1 1. Introduction 1.1 What is this guidance...»

«Legal Personality and the Responsibility of International Organizations Guy Henry Feil Jones A dissertation submitted in partial fulfilment of the degree of Bachelor of Laws (Honours) at the University of Otago October 2013 To Professor Kevin Dawkins, for your patient and insightful guidance; To my family, for your unwavering support and expeditious proofreading; And to Anwen, Hannah, James, Sarah and Toby, for a fantastic year. ii TABLE OF CONTENTS Introduction 1 Chapter One: The Draft...»

«117 Irish Journal of Legal Studies Vol. 1(1) Managerialism in Irish Universities Professor Steve Hedley* “Managerialism” is a term often used in relation to modern universities, sometimes as a neutral description of certain organisational techniques, sometimes as a pejorative expression. This article has three goals. Firstly, I suggest a reasonably precise definition of managerialism in this context. Secondly, against this definition I search for “managerialism” in modern Irish...»

<<  HOME   |    CONTACTS
2016 www.thesis.xlibx.info - Thesis, documentation, books

Materials of this site are available for review, all rights belong to their respective owners.
If you do not agree with the fact that your material is placed on this site, please, email us, we will within 1-2 business days delete him.