TY - JOUR
T1 - Strategic loan defaults and coordination
T2 - An experimental analysis
AU - Trautmann, S.T.
AU - Vlahu, R.
PY - 2013
Y1 - 2013
N2 - This paper experimentally studies the impact of bank and borrower fundamentals on loan repayment. We find that solvent borrowers are more likely to default strategically when the bank’s expected strength is low, although loan repayment is a Pareto dominant Nash equilibrium. Borrowers are also less likely to repay when other borrowers’ expected repayment capacity is low, regardless of banks’ fundamentals. We show that changes in expectations about bank and borrower fundamentals change the risk dominance properties of the borrowers’ coordination problem, and that these changes subsequently explain strategic defaults. For the individual borrower, loss aversion and negative past experiences reduce repayment, suggesting that bank failure can be contagious in times of distress.
AB - This paper experimentally studies the impact of bank and borrower fundamentals on loan repayment. We find that solvent borrowers are more likely to default strategically when the bank’s expected strength is low, although loan repayment is a Pareto dominant Nash equilibrium. Borrowers are also less likely to repay when other borrowers’ expected repayment capacity is low, regardless of banks’ fundamentals. We show that changes in expectations about bank and borrower fundamentals change the risk dominance properties of the borrowers’ coordination problem, and that these changes subsequently explain strategic defaults. For the individual borrower, loss aversion and negative past experiences reduce repayment, suggesting that bank failure can be contagious in times of distress.
U2 - 10.1016/j.jbankfin.2012.10.019
DO - 10.1016/j.jbankfin.2012.10.019
M3 - Article
SN - 0378-4266
VL - 37
SP - 747
EP - 760
JO - Journal of Banking & Finance
JF - Journal of Banking & Finance
IS - 3
ER -