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Banks, finance companies, and retailers often communicate to each other information about the creditworthiness of their customers. Sometimes, this informational exchange is intermediated by information brokers, such as credit bureaus and credit rating agencies. In most instances, only lenders and suppliers who have formerly provided data are allowed to access this consolidated information, albeit at a small fee per report. In discussion paper No 1295, Research Affiliate Jorge Padilla and Research Fellow Marco Pagano ask why lenders spontaneously contribute valuable information on their customers to their competitors. One would expect this to reduce their profitability, by exposing them to tougher competition. The authors highlight that information sharing also has a beneficial effect on the banks' profits, by inducing borrowers to exert greater effort in order to avoid default. They know that information about their current performance is going to become publicly known in the future, and will thus affect the interest rates charged to them in the future. Thus, information sharing has two opposite effects on the profitability of banks: it dissipates their informational rents by inducing tougher competition, but it also increases their profits by reinforcing borrowers' incentives to perform. The trade-off between these two effects determines the banks' choice to sign an information-sharing agreement. Their decision affects the degree of banking competition, the level and time profile of interest rates charged to clientele and the volume of lending, as well as the welfare of borrowers. Endogenous Communication Among Leaders and
Entrepreneurial Incentives Discussion Paper No. 1295, January 1996 (FE) |