Peer Grouping in An Adverse Selection Model

Beatriz Armendariz () and Christian Gollier ()

No 96-24 ISSN 1350-6722, Discussion Papers from University College London, Department of Economics

Abstract: This paper develops an adverse selection model which uncovers two mechanisms whereby Grameen-style peer grouping systems can trigger lower interest rates. In one extreme scenario, where participant borrowers do not have prior information about the type of their peers, lower interest rate are triggered by a `collateral effect'. In the opposite scenario, where participant borrowers have perfect knowledge about their peers, lower interest rates are triggered by a `self selection' effect. Because of the latter effect, peer grouping can be viewed as a mechanism for banks to extract information from borrowers. The existence of the former effect implies, however, that information extraction by banks necessary for peer grouping systems to succeed in reducing interest rates, and that peer grouping systems are potentially implementable beyond the sphere of village economies with perfect information.

Keywords: Credit; Peer-grouping; Adverse selection; Collateral; Selfselection (search for similar items in EconPapers)
JEL-codes: O16 D82 G20 (search for similar items in EconPapers)
Date: 1996-11
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