| Abstract: | This article offers an explanation for the substantial variationof credit standards and price competition among banks over thebusiness cycle. As the economic outlook improves, the averagedefault probabilities of borrowers decline. This affects theprofitability of screening and causes bank screening intensityto display an inverse U-shape as a function of economic prospects.Low screening activity in expansions creates intense price competitionamong lenders and loans are extended to lower-quality borrowers.As the economic outlook worsens, price competition diminishes,and credit standards tighten significantly. Deposit insurancemay contribute to the countercyclical variation of credit standards. |
