Proprietary information generated through the process of lending can impact the structure of the banking industry. With more competing banks, borrower-specific information becomes more disperse, as each bank becomes informed about a smaller pool of borrowers. This reduces banks' screening ability, creating an inefficiency as more low-quality borrowers obtain financing. Incumbent banks' information advantage may also create difficulties for potential entrants, so that entry should be easier in markets with high borrower turnover or where entrants have specific expertise in evaluating credit risks. We draw implications for whether financial deregulation is likely to increase borrowers' surplus, and what patterns of entry might be observed.

Proprietary information generated through the process of lending can impact the structure of the banking industry. With more competing banks, borrower-specific information becomes more disperse, as each bank becomes informed about a smaller pool of borrowers. This reduces banks’ screening ability, creating an inefficiency as more low-quality borrowers obtain financing. Incumbent banks’ information advantage may also create difficulties for potential entrants, so that entry should be easier in markets with high borrower turnover or where entrants have specific expertise in evaluating credit risks. We draw implications for whether financial deregulation is likely to increase borrowers’ surplus, and what patterns of entry might be observed.

We investigate the interaction between banks' use of information acquisition as a strategic tool and their role in promoting the efficiency of credit markets when a bank's ability to gather information varies with its distance to the borrower. We show that banks acquire proprietary information both to soften lending competition and to extend their market share. As competition increases, investments in information acquisition fall, leading to lower interest rates but also to less efficient lending decisions. Consistent with the recent wave of bank acquisitions, we also find that merging for informational reasons with a competitor is an optimal response to industry consolidation.

We analyze how two dimensions of technological progress affect competition in financial services. While better technology may result in improved information processing, it might also lead to low-cost or even free access to information through, for example, informational spillovers. In the context of credit screening, we show that better access to information decreases interest rates and the returns from screening. However, an improved ability to process information increases interest rates and bank profits. Hence predictions regarding financial claims' pricing hinge on the overall effect ascribed to technological progress. Our results generalize to other financial markets where informational asymmetries drive profitability, such as insurance and securities markets.

We study the role of shareholder information during the acquisition of widely held firms. When target shareholders share the same information about the post-takeover value, increasing the precision of information has no effect on the expected acquisition price. However, more precise information aggravates the free-rider problem, allowing shareholders to better discern when it is worthwhile to hold out rather than tender their shares. By contrast, when information is dispersed among shareholders, providing shareholders with superior information induces the raider to offer higher prices, thus increasing shareholder value. However, in this case, neither prices nor tendering decisions aggregate any information.

Private information obtained by lenders leads to borrower capture to the extent that such information cannot be communicated credibly to outsiders. We analyze how this capture affects the loan portfolio allocation of informed lenders. First, we show that banks charge higher interest rates and finance relatively less creditworthy borrowers in market segments with greater information asymmetries. Second, when faced with greater competition from outside lenders, banks reallocate credit toward more captured borrowers (flight to captivity). Third, if borrower quality and captivity are sufficiently correlated, an increase in the competitiveness of uninformed lenders can worsen the informed lender's overall loan portfolio. The model explains observed consequences of financial liberalizations.

[We analyze optimal financial contracts when the specificity of investments is endogenous. Specialization decreases the liquidation value of assets, but improves the asset's long-term productivity. While the former is known to make financing more difficult, we show that the latter can ease financing constraints and increase financing capacity by improving an entrepreneur's incentive to repay. The overall impact of specialization on the terms of financing depends on which effect is more important. Specialization decisions interact with the nature of investments, their timing, the need for outside financing, and an entrepreneur's ability to commit to a level of specialization.]

Loan guarantees represent a form of government intervention to support bank lending. However, their use raises concerns as to their effect on bank risk-taking incentives. In a model of financial fragility that incorporates bank capital and a bank incentive problem, we show that loan guarantees reduce depositor runs and improve bank underwriting standards, except for the most poorly capitalized banks. We highlight a novel feedback effect between banks’ underwriting choices and depositors’ run decisions, and show that the effect of loan guarantees on banks’ incentives is different from that of other types of guarantees, such as deposit insurance.

[Empirical evidence suggests that banks hold capital in excess of regulatory minimums. This did not prevent the financial crisis and underlines the importance of understanding bank capital determination. Market discipline is one of the forces that induces banks to hold positive capital. The literature has focused on the liability side. We develop a simple theory based on monitoring to show that discipline from the asset side can also be important. In perfectly competitive markets, banks can find it optimal to use costly capital rather than the interest rate on the loan to commit to monitoring because it allows higher borrower surplus.]