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Screening and Monitoring Corporate Loans

Sebastian Gryglewicz, Simon Mayer and Erwan Morellec
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Sebastian Gryglewicz: Erasmus University Rotterdam (EUR) - Erasmus School of Economics (ESE)
Simon Mayer: University of Chicago - Booth School of Business
Erwan Morellec: Ecole Polytechnique Fédérale de Lausanne; Swiss Finance Institute

No 21-82, Swiss Finance Institute Research Paper Series from Swiss Finance Institute

Abstract: We study a dynamic moral hazard problem in which a bank originates a pool of loans that it sells to competitive investors via securitization. The bank controls the default risk of the loans by screening at origination and monitoring after origination, but it is subject to moral hazard. The optimal contract between the bank and investors can be implemented via a time-decreasing stake within the loan pool, so the bank's monitoring incentives decrease and default risk increases over time. We find that screening and monitoring have positive incentive synergies and are complements. Credit ratings distort incentives, potentially increasing credit risk, and are particularly beneficial for high quality and short-maturity loans.

Keywords: Corporate Bonds; Securitization; CLOs; Debt Maturity; Banking; Dynamic Contracting (search for similar items in EconPapers)
Pages: 56 pages
Date: 2021-10
New Economics Papers: this item is included in nep-cta, nep-isf and nep-rmg
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