Informational Barriers to Entry into Credit Markets*

Economic theory suggests that asymmetric information between incumbents and entrants can generate barriers to entry into credit markets. Incumbents have superior information about their own customers and the overall economic conditions of the local credit market. This implies that entrants are likely to experience higher loan default rates than the incumbents. We test these theoretical predictions using a unique database of 7,275 observations on 729 individual banks’ lending in 95 Italian local markets. We find that informational asymmetries play a significant role in explaining entrants’ loan default rates. The default rate is significantly higher for those banks that entered local markets without opening a branch, suggesting that having a branch on site may help to reduce the informational disadvantage. We also uncover a positive correlation between banks’ loan default rates in individual local markets and the number of banks lending in that market. We argue that these informational barriers can help to explain why entry into many local credit markets by domestic and foreign banks was slow, even after substantial deregulation. * The views expressed in this article are those of the authors and do not involve the responsibility of the Bank of Italy. The authors thank Franklin Allen, Dario Focarelli, Andrea Generale, Luigi Guiso, Francesca Lotti, Marco Pagano, Alberto Franco Pozzolo, Paola Sapienza, Alessandro Secchi, two anonymous referees and seminar participants at the Bank of Italy, the Federal Reserve of Chicago, the 2003 BIS Workshop on Applied Banking Research, the 2003 EARIE Conference, the First Banca d’Italia/CEPR Conference on Money, Banking and Finance, the 2004 FIRS Conference on Banking, Insurance and Intermediation and the 2004 EEA Meeting for their comments. The usual disclaimer applies to all of them.     

Political intergenerational risk sharing

In a stochastic two-period OLG model, featuring an aggregate shock to the economy, ex-ante optimality requires intergenerational risk sharing. We compare the level of intergenerational risk sharing chosen by a benevolent government and by an office-seeking politician. In our political system, the transfer of resources across generations is determined as a Markov equilibrium of a probabilistic voting game. Low realized returns on the risky asset induce politicians to compensate the old through a PAYG system. This political system typically generates an intergenerational risk sharing scheme that is (i) larger, (ii) more persistent, and (iii) less responsive to the realization of the shock than the social optimum. This is because the current politician anticipates her transfers to the elderly to be compensated by future politicians through offsetting transfers, and hence overspends.     

Knightian Uncertainty in Financial Markets: An Assessment

If information is too vague and imprecise to be summarized by a unique additive probability measure, an agent faces Knightian uncertainty or ambiguity rather than risk. Under Knightian uncertainty, an agent's beliefs may be represented by a capacity or a set of additive probabilities. It is proved that an agent's attitude towards ambiguity has a crucial role in asset price determination and portfolio choice. Knightian uncertainty attitude provides an alternative explanation of financial market failures and enables puzzles to be solved, such as market breakdowns, price indeterminacy and volatility, bid and ask spreads, portfolio inertia, violation of call and put parity.
(J.E.L.: D81, G11, G12).     

Patient selection in a mixed oligopoly market for health care: the role of the soft budget constraint

Competition in hospital care is often implemented through mixed markets where public and private hospitals compete for patients. The optimality of this market form has long been debated in the literature. In this paper, we investigate the role of soft budget constraint in affecting patient selection within a mixed market. Patient selection is the undesired effect of hospital competition when three conditions are met: asymmetry in hospitals’ objectives, presence of hospital’s private information and inability to enforce hard budget constraint. The paper shows that soft budget is a pre-condition for the existence of patient selection. Our paper adds an important dimension to the existing literature which considers asymmetry of information as the only cause for this market failure. The understanding of the mechanisms leading to patient selection makes it possible for the regulator to design measures to reduce such undesirable effect.