Collateral in Banking Policy and Adverse Selection

Udo Broll () and Bernard Gilroy

The Manchester School of Economic & Social Studies, 1986, vol. 54, issue 4, 357-66

Abstract: This paper analyzes collateral in banking policy and adverse se lection effects given information asymmetry. It is shown that with asymmetric in formation, given the interest rate, one cannot expect collateral to equilibrate the market for loans. The reason is that the average riskiness of a loan will be positively related to the collateral agreement. Hence the gain for the bank fro m higher collateral will be compared with the adverse selection loss leading to an optimum collateral, which need not be market clearing. Copyright 1986 by Blackwell Publishers Ltd and The Victoria University of Manchester

Date: 1986
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