Quality of Institutions, Credit Markets and Bankruptcy

Hainz, Christa (July 2004): Quality of Institutions, Credit Markets and Bankruptcy. Discussion Papers in Economics 2004-18

Abstract

The number of firm bankruptcies is surprisingly low in economies with poor institutions. We study a model of bank-firm relationship and show that the bank's decision to liquidate bad firms has two opposing effects. First, the bank gets a payoff if a firm is liquidated. Second, it loses the rent from incumbent customers due to its informational advantage. We show that institutions must improve significantly in order to yield a stable equilibrium in which the optimal number of firms is liquidated. However, in a particular range, improving institutions may even decrease the number of bad firms liquidated.

• Item Type: Paper (Discussion Paper)
• Keywords: Credit markets, institutions, bank competition, information sharing, bankruptcy, relationship banking
• Subjects: Economics; Economics > Discussion Papers in Economics
• Dewey Classification: 300 Social sciences; 300 Social sciences > 330 Wirtschaft
• Journal of Economic Literature classification: G21, G33, K10, D82
• Language: English