DP6317 Safety Nets Within Banks

Author(s): Mike Felgenhauer, Hans Peter Grüner
Publication Date: May 2007
Keyword(s): hierarchies, lobbying, voting rules
JEL(s): D73, G32, L51
Programme Areas: Financial Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=6317

We study how banks should protect their credit departments against the external influence from potential borrowers. We analyze four mechanisms that are widespread in practice: a credit board with unanimity or simple majority, a hierarchy and an advisory system. A bank faces a trade-off between the quality of information aggregation and the effectiveness of barriers against external influence. We provide a ranking of the different schemes. Some of them are equivalent even though the credit managers' decision power differs. In large credit decisions, banks should sacrifice on the quality of information aggregation in order to better protect the decision making process from outside influence.