Moral hazard and adverse selection in the originate-to-distribute model of bank credit |
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Authors: | Antje Berndt Anurag Gupta |
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Affiliation: | aJohns Hopkins University |
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Abstract: | Bank credit has evolved from the traditional relationship banking model to an originate-to-distribute model. We show that the borrowers whose loans are sold in the secondary market underperform their peers by about 9% per year (risk-adjusted) over the three-year period following the initial sale of their loans. Therefore, either banks are originating and selling loans of lower quality borrowers based on unobservable private information (adverse selection), and/or loan sales lead to diminished bank monitoring that affects borrowers negatively (moral hazard). We propose regulatory restrictions on loan sales, increased disclosure, and a loan trading exchange/clearinghouse as mechanisms to alleviate these problems. |
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Keywords: | Syndicated loans Secondary loan market Originate-to-distribute Moral hazard Adverse selection |
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