Risk and intermediation in a dual financial market model

Gaetano Bloise and Pietro Reichlin

No 2002004, LIDAM Discussion Papers CORE from Université catholique de Louvain, Center for Operations Research and Econometrics (CORE)

Abstract: This paper investigates the relation between risk and the degree of financial intermediation in a model with moral hazard. Entrepreneurs can simultaneously get credit from two type of competing institutions:"financial intermediairies" and "local lenders". The former are competitive firms issuing deposits and having a comparative advantage in diversifying credit risks. The latter are individuals with a comparative advantage in credit arrangements with a "nearby" entrepreneur. Because of intermediation costs, local lenders are willing to diversify their portfolio by offering some direct lending to nearby entrepreneurs.We show that, in some cases, a fall in intermediation costs, by inducing local lenders to choose a safer portfolio reduces entrepreneurs' effort and increases the probability of default. In these cases a taxation policy may be welfare-improving.

Keywords: financial intermediation; moral hazard (search for similar items in EconPapers)
JEL-codes: A10 D80 G10 O17 (search for similar items in EconPapers)
Date: 2002-01
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Related works:
Working Paper: Risk and Intermediation in a Dual Financial Market Model (2001)
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Persistent link: https://EconPapers.repec.org/RePEc:cor:louvco:2002004

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