Lending to Overconfident Borrowers

Filippo De Marco, Julien Sauvagnat and Enrico Sette

No 15785, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: We study how banks lend to overconfident borrowers. For identification, we exploit variation in pupils’ overconfidence across areas in Italy. We find that borrowers born in overconfident areas make larger forecast errors on future sales, pay higher loan rates and are more likely to be denied credit. Consistent with a credit market model where borrowers have biased beliefs, collateral-based banks are more likely to grant credit to overconfident borrowers, who then invest and default more than others. We estimate that bad loans in Italy would be €10 billion (8%) lower in 2017 if banks relied less on collateral when lending to overconfident borrowers.

Keywords: Optimism; Business expectations; Loan applications; Borrower default; Collateral requirements (search for similar items in EconPapers)
JEL-codes: G21 G41 (search for similar items in EconPapers)
Date: 2021-02
New Economics Papers: this item is included in nep-ban and nep-cfn
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