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Socially excessive bankruptcy costs and the benefits of interest rate ceilings on loans

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Listed:
  • Marco A. Espinosa-Vega
  • Bruce Smith

Abstract

The authors study the capital accumulation and welfare implications of ceilings on loan interest rates in a dynamic general equilibrium model. Binding ceilings on loan rates reduce the probability of bankruptcy. Lower bankruptcy rates result in lower bankruptcy and liquidation costs. The authors state conditions under which the resources freed by this cost-saving result increase the steady state capital stock, reduce steady state credit rationing, and raise the steady state welfare of all agents. The authors also argue that the conditions stated are likely to be satisfied in practice. Finally, their results hold even if initially there is capital over-accumulation.

Suggested Citation

  • Marco A. Espinosa-Vega & Bruce Smith, 2001. "Socially excessive bankruptcy costs and the benefits of interest rate ceilings on loans," FRB Atlanta Working Paper 2001-27, Federal Reserve Bank of Atlanta.
    • Handle: RePEc:fip:fedawp:2001-27
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    References listed on IDEAS

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    3. Boyd, John H. & Smith, Bruce D., 1997. "Capital Market Imperfections, International Credit Markets, and Nonconvergence," Journal of Economic Theory, Elsevier, vol. 73(2), pages 335-364, April.
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    9. Brock, Philip L. & Rojas Suarez, Liliana, 2000. "Understanding the behavior of bank spreads in Latin America," Journal of Development Economics, Elsevier, vol. 63(1), pages 113-134, October.
    10. Boyd, John H & Smith, Bruce D, 1994. "How Good Are Standard Debt Contracts? Stochastic versus Nonstochastic Monitoring in a Costly State Verification Environment," The Journal of Business, University of Chicago Press, vol. 67(4), pages 539-561, October.
    11. Townsend, Robert M., 1979. "Optimal contracts and competitive markets with costly state verification," Journal of Economic Theory, Elsevier, vol. 21(2), pages 265-293, October.
    12. Tullio Jappelli, 1990. "Who is Credit Constrained in the U. S. Economy?," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 105(1), pages 219-234.
    13. Kevin C. Murdock & Thomas F. Hellmann & Joseph E. Stiglitz, 2000. "Liberalization, Moral Hazard in Banking, and Prudential Regulation: Are Capital Requirements Enough?," American Economic Review, American Economic Association, vol. 90(1), pages 147-165, March.
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    Cited by:

    1. Sadia Afrin & Ilias Skamnelos & Waheduzzaman Sarder, 2022. "Drivers of intermediation costs, financial repression and stability," Journal of Economics and Finance, Springer;Academy of Economics and Finance, vol. 46(2), pages 283-307, April.
    2. Godwin Olasehinde-Williams & Oktay Özkan, 2022. "Is interest rate uncertainty a predictor of investment volatility? evidence from the wild bootstrap likelihood ratio approach," Journal of Economics and Finance, Springer;Academy of Economics and Finance, vol. 46(3), pages 507-521, July.
    3. Mr. Etibar Jafarov & Mr. Rodolfo Maino & Mr. Marco Pani, 2019. "Financial Repression is Knocking at the Door, Again," IMF Working Papers 2019/211, International Monetary Fund.
    4. Arend, Mario, 2009. "A Small Open Economy with Heterogenous Agents Facing Interest Rate Ceilings on Loans," MPRA Paper 19427, University Library of Munich, Germany.
    5. Robert Mayer, 2013. "When and Why Usury Should be Prohibited," Journal of Business Ethics, Springer, vol. 116(3), pages 513-527, September.

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    Keywords

    Loans; Interest rates; Bankruptcy;
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