Endogenous Relationship Banking to Alleviate Excessive Screening in Transaction Banking
43 Pages Posted: 8 Mar 2005
Date Written: December 2006
This paper analyzes how learning a borrower's creditworthiness, from past lending decision by a rival bank that is publicly observable through private or public credit reporting systems, affects the performance of subsequent lending competitions. Our analysis of twice-repeated lending competitions demonstrates that such ex post information sharing causes inefficient and excessive screening of new borrowers when banks undertake transaction banking since each bank expects future disadvantages to result from the information revelation. Relationship banking arises endogenously as a defense against such anticipated disadvantage, and improves the economic efficiency by alleviating the excessive screening.
Keywords: relationship banking, informational externality, interbank competition, common-value repeated auction
JEL Classification: G21, L14
Suggested Citation: Suggested Citation