Financial Intermediation, Loanable Funds and the Real Sector

Transcription

1 Financial Intermediation, Loanable Funds and the Real Sector Bengt Holmström and Jean Tirole The Quaterly Journal of Economics, 1997, Vol 52, pages Microeconomics of Banking, Freixas and Rochet, ch. 2 May 26 th, 2003 Thorsten Slytå 1

2 Object of the paper Analyze how the distribution of wealth across firms, intermediaries and uninformed investors affect investments and the intensity of monitoring. Show that all forms of capital tightening hit the poorly capitalized firms the hardest. Show that the intensity of monitoring will depend on relative changes in the various components of capital 2

3 The model considers three types of agents The Real Sector The Financial Sector Uninformed investors 3

4 The Real Sector All firms have access to the same technology. Only difference is the amount of capital A (cash). Each firm has one economically viable projekt. It costs I > 0 to undertake a projekt (in period 1). In period 2 the investment generates a financial return of either 0 (failure) or R (success). If A < I a firm needs at least I A in external funds to invest. Firms are run by entrepreneurs who may reduce the probability for success in order to enjoy a private benefit. 4

5 Types of Projects (Moral hazard problem) Project Good Bad (Low private benefit) Bad (High private benefit) Private benefit O b B Probability of success P H P L P L = Rate of return on investor s capital P H R- I > 0 > P L - I+B R = Financial Return (project success) P = P H P L > 0 I = Cost of project B > b > 0 5

6 The Financial Sector The Finacial sector consists of many intermediaries. The function of intermediaries is to monitor firms and thereby take away the moral hazard problem. Monitoring prevent firms from undertaking the B-project. Monitoring is costly and the intermediary have to pay c > 0 in order to eliminate the B-project. All projects financed by an intermediary are perfectly correlated. 6

7 Uninformed Investors Individual investors are small and uninformed. The uninformed investors demands an expected return of The uninformed investors cannot monitor other firms. 7

8 Direct Finance When a firm borrows only from uninformed investors. Here treated here as a single party. One optimal contract: The firm invests all ist funds A The uninformed investors invests I A Neither party is paid anything if the investment fails. If the project succeeds the firm is paid R f > 0 and the investors R u > 0 where R f + R u = R 8

9 A necessary condition for direct finance is that the firm prefers to be diligent: P H R f P L R f + B Direct finance therefore requires that the firm is paid at least: (IC f ) R f B / P This leaves at most R u = R B / P to the investors. The maximum expected income that can be promised to the investors without destroying the firm s incentives is : P H [ R B / P ] this cannot be less than: [ I A ], which is the market value of the funds supplied by the uninformed investors. 9

10 A necessary condition for the firm to have access to direct finance is: γ [ I A ] P H [ R B / P ] This defines: Â(γ) = I P H / γ[ R B / P ] Therfore we can see that only firms with : A Â(γ) can invest using direct finance. 10

11 Indirect Finance When a firm borrows from a monitoring intermediary. Some funds are provided by the intermediary itself and some by uninformed investors One optimal contract: Neither party is paid anything if the investment fails. The payoff is divided as R f + R u + R m = R 11

12 Since monitoring eliminates the high benefit project (the B-project) the firm s incentive constraint is now: (IC f ) R f b / P In order for the intermediary to monitor we must have: (IC m ) R m c / P The pledgeable expected income, again defined as the maximum expected income that can be promised to the uninformed investors without destroying incentives, is then: P H [ R (b + c) / P ] Let I m be the amount of capital that an intermediary invests in a firm that it monitors. The rate of return on intermediary capital is then: = P H R m / I m Since monitoring is costly must exceed. (IC m ) I m ( ) = P H c / ( P), which is how much the intermediary will contribute to each firm it monitors. 12

13 Uninformed investors must supply the balance : I u = I - A - I m ( ) A necessary and sufficient condition for a firm to be financed therefor is: [ I - A - I m ( )] P H [ R - (b + c) / P ] This can be rewritten as: A A(, ) = I - I m ( ) - (P H / )[ R (b + c) / P ] A firm with less than A(, ) in initial assets cannot convince uninformed investors to supply enough capital for the project. 13

14 Two types of mixed financing I Monitors Investors 0 Project is not funded A(, ) Indirect Finance Â( ) Direct Finance A = The investors demanded expected rate of return = The rate of return on the intermediary capital 14

15 II Monitors Investors 0 Project is not funded A(, ) Indirect Finance Â( ) Direct Finance A = The investors demanded expected rate of return = The rate of return on the intermediary capital 15

16 Conclusion Well-capitalized firms with A Â( ) can finance their investment directly and demand no informed capital. Undercapitalized firms with A < A(, ) cannot invest at all In between we have the firms with capital A(, ) A < Â( ) these firms can invest but only with the help of monitoring. All forms of capital tightening hit the poorly capitalized firms the hardest. The intensity of monitoring will depend on the changes of capital. 16

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