Repeated interactions allow lenders to uncover private information about their clients, decreasing the informational asymmetry between a borrower and his lender but introducing one between the lender and competing financiers. This paper constructs a credit-based model of production to analyze how learning through lending relationships affects monetary transmission. I examine how monetary policy changes the incentives of borrowers and lenders to engage in relationship lending and how these changes then shape the response of aggregate output. The results demonstrate that relationship lending prevails in equilibrium, smoothes the steady state output profile, and induces less volatile responses to certain monetary shocks.
An important issue in both welfare and development economics is the interaction between institutions and economic outcomes. While welfarists are typically concerned with how these variables contribute to overall wellbeing, empirical assessments of their joint contribution are limited. Development economists, on the other hand, have focused extensively on whether institutions cause or are caused by growth yet the relevant literature is still rife with debate. In this article, we use a notion of distributional dominance to tackle both the measurement of multivariate welfare and the evaluation of inter-temporal dependence without hindrance from the mix of discrete (political) and continuous (economic) variables in our data set. On the causality front, our results support the view that institutions promote growth more than growth promotes institutions. On the welfare front, we find that economic growth had a positive impact from 1960 to 2000 but declines in institutional quality over the earlier part of this period were sufficient to produce a decline in overall wellbeing until the mid-1970s. Subsequent improvements in institutions then reversed the trend and, ultimately, wellbeing in 2000 was higher than that in 1960.
This paper studies risk-taking when loan officer compensation is optimally structured to generate competition. Compensation contracts are necessary because bank managers must incentivize officers to screen borrowers and charge type-contingent loan rates. Optimality of a relative performance contract then arises because the bank is imperfectly informed about the quality of the borrower pool from which officers draw. If even good borrowers are slightly risky, I find that the optimal contract can be implemented as a rank-order tournament which compels loan officers to minimize risk-taking across the board. Otherwise, rank-order tournaments are not optimal and a bank which restricts attention to them will find selected risk-taking less costly to incentivize when moderately pessimistic about the borrower pool. Therefore, if the fixed cost of changing compensation structures is high, transitioning from a world without riskless assets to a world with riskless assets can actually increase risk-taking and create more dispersion in the output of bank-dependent borrowers.
I build a model to analyze whether banks are efficient at allocating resources across intermediation activities. Competition among lenders means that resources are needed to attract borrowers into credit matches while imperfect information means that resources are also needed to screen those borrowers once attracted. I show that the privately optimal allocation of resources is constrained inefficient when the cutoff between desirable and undesirable borrowers is endogenous. More precisely, too much emphasis is placed on getting rather than vetting borrowers but, once properly vetted, not enough of these matches are actually retained. Uninformed lending is thus inefficiently high, informed lending is inefficiently low, and a matching tax helps remedy the situation.
We investigate the effectiveness of central bank communication when firms have heterogeneous inflation expectations that are updated through social dynamics. The bank's credibility evolves with these dynamics and determines how well its announcements anchor expectations. We show that trying to eliminate high inflation by introducing a low inflation target can lead to short-term overshooting if the introduction is insufficiently gradual. In contrast, combating deflation requires either aggressive announcements that are broadly consistent with price level targeting or QE-type announcements that allow the central bank to stem deflationary expectations without altering its inflation target.
Research in Progress
Too Small to Fail: The Hidden Cost of Small Bank Failures in the 1930s (with Jon Cohen)
Banking Sector Heterogeneity and Optimal Currency Unions