How Public Information Affects Asymmetrically Informed Lenders: Evidence from a Credit Registry Reform (with Ali Choudhary), March 2020, Journal of Development Economics. [PDF]
We exploit exogenous variation in a firm’s public information available to banks to empirically evaluate the importance of adverse selection in the credit market using a Pakistani banking reform that reduced public information. Originally, the central bank published credit information about the firm and (aggregate) credit information about the firm’s group. After the reform, the central bank stopped providing the aggregate group-level information. We construct a measure for the amount of information each lender has about a firm’s group using the set of firm-bank lending pairs prior to the reform. We show those banks with private information about a firm lent relatively more to that firm than other, less-informed banks following the reform. Remarkably, this reduction in lending by less informed banks is true even for banks that had a preexisting relationship with the firm, suggesting that the strength of prior relationships does not eliminate the problem of imperfect information.
A Model of Intermediation in a Walrasian Framework (with Robert Townsend) [pdf], forthcoming, Economic Theory.
Abstract. We present a tractable model of platform competition in a general equilibrium setting. We endogenize the size, number, and type of each platform, while allowing for different user types in utility and impact on platform costs. The model is applicable to the recent growth in digital currency platforms. The economy is Pareto efficient because platforms internalize the network effects of adding more or different types of users by offering type-specific contracts that state both the number and composition of platform users. Using the Walrasian equilibrium concept, the sum of type-specific fees paid cover platform costs. Given the Pareto efficiency of our environment, we argue against the presumption that platforms with externalities need be regulated.
Finance and Inequality: The Distributional Impacts of Credit Rationing. (with Ali Choudhary). Revision requested.
Abstract. We analyze reductions in bank credit using a natural experiment where unprecedented flooding differentially affected banks that were more exposed to flooded regions in Pakistan. Using a unique dataset that covers the universe of consumer loans in Pakistan and this exogenous shock to bank funding, we find two key results. First, banks disproportionately reduce credit to new and less-educated borrowers, following an increase in their funding costs. Second, the credit reduction is not compensated by relatively more lending by less-affected banks. The empirical evidence suggests that adverse selection is the primary cause for banks disproportionately reducing credit to new borrowers.
Corporate stress and bank nonperforming loans in emerging markets. (with Ali Choudhary), [pdf], Revision requested.
In principle, an increase in corporate stress should be associated with an increase in bank nonperforming loans. However, first using a cross-country sample, we show that there is no correlation between these two measures in emerging market economies while there is positive correlation for advanced economies. Second, using detailed Pakistani credit registry data, we tease out how firms and banks react to nonperforming loans. Relative to other explanations, we find strong evidence that banks with lower capital ratios delay recognizing nonperforming loans while simultaneously reducing their exposure to such firms. A previous of this paper was called “Bank lending to (zombie?) firms.”
Why do banks not lend? An experiment testing informational and contractual frictions. (with Ali Choudhary)
Credit access is limited in rural areas, especially in developing economies. Using a novel three-stage experimental design in Pakistan, first, we document that bank lending only serves a small fraction of rural credit demand. Second, we test the importance of information and enforcement technology frictions for limiting bank lending by randomly varying loan contractual terms across farmers. We find that enforcement technology is the primary friction for limiting bank lending. Third, using a final survey, we document that farmers tend to correctly identify the financial consequences of non-repayment. Fourth, our results suggest one possible solution to overcome this financial friction—a motivated and interlinked intermediary.
Financing Repeat Borrowers: Designing Credible Incentives for Today and Tomorrow. (with Piruz Saboury)
We analyze relationship lending and repeated borrowing when borrower cash flows are not verifiable and when the costs of intermediation vary over time. Because lenders provide repayment incentives to borrowers through the continuation value of the lending relationship, borrowers will condition loan repayment on the likelihood of receiving loans in the future. Thus, beliefs about the future liquidity of the intermediary will be an important component of the borrower’s repayment decision. This implies that the financing decisions of the lender itself may affect the value of the underlying loans through the liquidity channel. We discuss the application of our model to the case of microfinance.
Efficient Public Good Provision in Networks: Revising the Lindahl Solution [pdf]
Abstract: The provision of public goods in developing countries is a central challenge. I examine a model where each agent’s effort provides heterogeneous benefits to the others, inducing a network of opportunities for favor-trading. I focus on a classical efficient benchmark — the Lindahl solution — that can be derived from a bargaining game. Does the optimistic assumption that agents use an efficient mechanism (rather than succumbing to the tragedy of the commons) imply incentives for efficient investment in the technology that is used to produce the public goods? To show that the answer is “no” in general, we give comparative statics of the Lindahl solution which have natural network interpretations. We then suggest some welfare-improving interventions.