Adverse Selection versus Moral Hazard in Financial Contracting: Evidence from collateralized and non-collateralized loans

Hirofumi Uchida, Iichiro Uesugi and Hiromichi Iwaki

Discussion papers from Research Institute of Economy, Trade and Industry (RIETI)

Abstract: We test the existence of adverse selection and moral hazard in financial contracting by examining the choice of borrowers between collateralized and non-collateralized loans. Using comprehensive loan-level data from all loans underwritten by a large public bank in Japan, we examine the borrowers' behavior before and after the introduction of non-collateralized loans that expand the choice set for borrowers. We find an increase in credit risk for firms that switch to non-collateralized loans after the introduction, which is consistent with moral hazard. In contrast, we find mixed and unclear evidence for the existence of adverse selection.

Pages: 45 pages
Date: 2017-03
New Economics Papers: this item is included in nep-ban
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Persistent link: https://EconPapers.repec.org/RePEc:eti:dpaper:17058

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