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Asian Review of Financial Research, Vol., No..
pp.86~140
pp.86~140
Dynamic Adverse Selection and Belief Update in Credit
Inkee Jang Xiamen University
Kee-Youn Kang Yonsei University
We develop a dynamic model of debt contracts with adverse selection and belief updates. In the model, entrepreneurs borrow investment goods from lenders to run businesses whose returns depend on entrepreneurial productivity and common productivity. The entrepreneurial productivity is the entrepreneur¡¯s private information, and the lender constructs beliefs about the entrepreneur¡¯s productivity based on the entrepreneur¡¯s business operation history, common productivity history, and terms of the contract. The model provides insights on the dynamic and cross-sectional relation between firm age and credit risk, cyclical asymmetry of the business cycle, slow recovery after a crisis, and the constructive economic downturn.
Inkee Jang
Kee-Youn Kang
We develop a dynamic model of debt contracts with adverse selection and belief updates. In the model, entrepreneurs borrow investment goods from lenders to run businesses whose returns depend on entrepreneurial productivity and common productivity. The entrepreneurial productivity is the entrepreneur¡¯s private information, and the lender constructs beliefs about the entrepreneur¡¯s productivity based on the entrepreneur¡¯s business operation history, common productivity history, and terms of the contract. The model provides insights on the dynamic and cross-sectional relation between firm age and credit risk, cyclical asymmetry of the business cycle, slow recovery after a crisis, and the constructive economic downturn.