Lending becomes less arac9ve 4 six factors to

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Unformatted text preview: ne –  Decreases the net worth of corpora9ons. –  Lenders have less protec9on against the consequence of adverse selec9on (since net worth ≈ collateral). –  Lenders become reluctant to lend corpora9ons. –  In addi9on, since corpora9ons now have less to loose, they have more incen9ves to invest on more risky projects, causing the moral hazard problem worse. –  Lending becomes less a`rac9ve. 4 Six Factors to Financial Crises: 1. Asset markets effects on borrowers’ B/S b)  Unan9cipated decline in the price level –  Most of debt contracts are wri`en in nominal terms (not a con9ngent plan). –  Unan9cipated decline in the price level raises the value of borrowing firms’ liabili9es in real terms, but leaves the real value of firms’ asset unchanged. –  In real terms, the firms’ net worth declines. –  Adverse selec9on and moral hazard are more likely. –  Depressed lending and thus aggregate economic ac9vity. 5 Six Factors to Financial Crises: 1. Asset markets effects on borrowers’ B/S...
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This note was uploaded on 02/02/2013 for the course ECON 2035 taught by Professor Stahl during the Fall '08 term at LSU.

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