4. Conclusions
This paper studies asymmetric information regarding the law in credit markets. It has the same negative effects as the standard form of asymmetric information: credit rationing, underinvesting, and overinvesting. The main difference between these two categories of asymmetric information is that the standard form of asymmetric information can be eliminated using collateral or personal guarantees. These methods are rather ineffective under asymmetric information regarding the law if the lender lacks legal expertise. Obviously, it is possible to build up legal expertise. Unfortunately, most of us have such limited funds available for lending that the small volume of lending makes qualification unprofitable. To eliminate the negative effects of asymmetric information regarding the law, it is optimal to create a financial intermediary, a bank, which builds up its legal expertise and utilizes it in numerous loan contracts on behalf of the depositors, enabling us to make deposits without legal expertise. Asymmetric information regarding the law is the most likely to generate problems in multinational lending (de Soto 2000; Glen, 2011). Foreign lenders usually have less information about the legal system than domestic lenders. This highlights the task of banks in multinational finance.
We have analyzed few incidents of asymmetric information regarding the law. It can appear in several alternative forms. Consider the following example. Davydenko and Franks (2008, p. 566–567) describe the values of collateral assets: While real estate collateral is the most important source of banks’ recovery in Germany and the United Kingdom, it is far less valuable in France, both because sales proceeds there are diluted by preferential creditors such as employee wages and bankruptcy fees, and because French bankruptcy courts tend to sell assets below their potential market prices in order to preserve employment. By contrast, accounts receivables and personal guarantees can be realized by French banks directly, and the proceeds are not subject to dilution by creditors. As a result, these collateral types are used more often than real estate at loan origination in France.
