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Optimal collective contract without peer information or peer monitoring

Daripa, Arup (2008) Optimal collective contract without peer information or peer monitoring. Journal of Development Economics 86 (1), pp. 147-163. ISSN 0304-3878.

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Official URL: http://dx.doi.org/10.1016/j.jdeveco.2007.06.010

Abstract

If entrepreneurs have private information about factors influencing the outcome of an investment, individual lending is inefficient. The literature typically offers solutions based on the assumption of full peer information to solve adverse selection problems and peer monitoring to solve moral hazard problems. In contrast, I show that it is possible to construct a simple budget-balanced mechanism that implements the efficient outcome even if each borrower knows only own type and effort, and has neither privileged knowledge about others nor monitoring ability. The mechanism satisfies participation incentives for all types, and is immune to the Rothschild–Stiglitz cream skimming problem despite using transfers from better types to worse types. The presence of some local information implies that the mechanism cannot be successfully used by formal lenders. Thus a local credit institution can emerge as an optimal response to the informational environment even without peer information or monitoring. Finally, I investigate the role of monitoring in this setting and show how costly monitoring can increase the scope of the mechanism.

Item Type: Article
Keyword(s) / Subject(s): Informal credit, adverse selection, moral hazard, pricing participation in investment, cream skimming, local information, costly partial monitoring
School or Research Centre: Birkbeck Schools and Research Centres > School of Business, Economics & Informatics > Economics, Mathematics and Statistics
Depositing User: Administrator
Date Deposited: 09 Dec 2010 10:14
Last Modified: 17 Apr 2013 12:33
URI: http://eprints.bbk.ac.uk/id/eprint/1932

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