Credit Rationing and Implicit Contract Theory

Abstract

THE RECENT SURVEY by Baltensperger [S] shows that the question of why bankers undertake nonprice rationing of credit is still very much unanswered. Previous attempts to address the question have ended up merely assuming the answer. For example, the attempts prior to the 1960s all involved the assumption that interest rates could not adjust so as always to clear the market for credit, the attempt by Hodgman [9] did not really address the issue of interest rate determination, and the later attempt by Jaffee and Modigliani [10] involved the assumption that banks cannot charge different rates to all of their customers. The only analysis in the literature that is free from this criticism is that of Jaffee and Russell [11], which focuses on adverse selection concerning default by dishonest customers. Meanwhile, recent developments in the theory of labor contracts (e.g., [1, 2, 3, 4, 7]) have made progress in answering the closely analogous question of why firms lay workers off rather than adjust wages. The purpose of the present paper is to show how these developments can be used and extended so as to provide a tentative answer to the question of why bankers ration credit. 1