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Imperfect Information Transmission from Banks to Investors: Macroeconomic Implications

Nicolas Figueroa (), Oksana Leukhina () and Carlos Ramirez

No 2018-18, Working Papers from Federal Reserve Bank of St. Louis

Abstract: Our goal is to elucidate the interaction of banks' screening effort and strategic information production in loan-backed asset markets using a general equilibrium framework. Asset quality is unobserved by investors, but banks may purchase error-prone ratings. The premium paid on highly rated assets emerges as the main determinant of banks' screening effort. The fact that rating strategies reflect banks' private information about asset quality helps keep this premium high. Conventional regulatory policies interfere with this decision margin, thereby reducing signaling value of high ratings and exacerbating the credit misallocation problem. We propose a tax/subsidy scheme that induces efficiency.

Keywords: credit misallocation; information asymmetry; information production; screening effort; rising asset complexity; mandatory rating; mandatory ratings disclosure (search for similar items in EconPapers)
JEL-codes: G01 G24 G28 (search for similar items in EconPapers)
Date: 2019-12-05
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Forthcoming in Journal of Monetary Economics

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DOI: 10.20955/wp.2018.018

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