This paper characterizes an optimal group loan contract with costly peer monitoring. Using a fairly standard moral hazard framework, we show that the optimal group lending contract could exhibit a joint-liability scheme. However, optimality of joint-liability requires the involvement of a group leader, who heavily takes care of the partner's repayment share in bad states and gets compensated in expected terms. This key result holds even for a group of borrowers, which exhibits homogeneous characteristics in productivity, risk aversion and monitoring costs. Our work rationalizes the widely-applied group-leadership concept of micronance programmes as an outcome of an optimal contract.
|Place of Publication||Tilburg|
|Number of pages||30|
|Publication status||Published - 2 Dec 2014|
|Name||EBC Discussion Paper Series|
- group leader