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Federal Reserve Bank of Philadelphia
Working Papers
Building Credit History with Heterogeneously Informed Lenders
Natalia Kovrijnykh
Igor Livshits
Ariel Zetlin-Jones
Abstract

This paper examines a novel mechanism of credit-history building as a way of aggregating information across multiple lenders. We build a dynamic model with multiple competing lenders, who have heterogeneous private information about a consumer's creditworthiness, and extend credit over multiple stages. Acquiring a loan at an early stage serves as a positive signal | it allows the borrower to convey to other lenders the existence of a positively informed lender (advancing that early loan) | thereby convincing other lenders to extend further credit in future stages. This signaling may be costly to the least risky borrowers for two reasons. First, taking on an early loan may involve cross-subsidization from the least risky borrowers to more risky borrowers. Second, the least risky borrowers may take inefficiently large loans relative to the symmetric-information benchmark. We demonstrate that, despite these two possible costs, the least risky borrowers often prefer these equilibria to those without information aggregation. Our analysis offers an interesting and novel insight into debt dilution. Contrary to the conventional wisdom, repayment of the early loan is more likely when a borrower subsequently takes on a larger rather than a smaller additional loan. This result hinges on a selection effect: larger subsequent loans are only given to the least risky borrowers.


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Natalia Kovrijnykh & Igor Livshits & Ariel Zetlin-Jones, Building Credit History with Heterogeneously Informed Lenders, Federal Reserve Bank of Philadelphia, Working Papers 19-17, 13 Mar 2019.
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Subject headings:
Keywords: Credit History; Information Aggregation; Debt Dilution
DOI: 10.21799/frbp.wp.2019.18
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