Government Loan Guarantees, Market Liquidity, and Lending Standards

To Securitize or to Price Credit Risk?

“…How do lenders manage credit risk? Where insurance markets are incomplete (Bhutta and Keys (2018), Ahnert and Kuncl (2020), and Kahn and Kay (2020)), a financial institution can protect itself against credit risk using loan pricing and securitization (Parlour and Winton (2013)). While a vast literature documents the determinants of securitization (Pennacchi (1988), Gorton and Pennachi (1995), Loutskina and Strahan (2009), Loutskina (2011), andHan, Park, andPennacchi (2015)), much less is known about when and to what extent lenders choose securitization as a credit risk management device over risk-based pricing.…”

The importance of technology in banking during a crisis

“…For example, more IT might have allowed these banks to sustain more reliable internal rating systems. We refer to Berg (2015) andBerg et al (2019a) for a description of internal rating systems.21 This is consistent with IT banks having lower screening costs and screening improves the probability of repayment, see e.g Ahnert and Kuncl (2020)…”

Loan guarantees, bank underwriting policies and financial stability

“…For example, Beyhaghi (2022) shows that over one-third of corporate loans issued by US banks are guaranteed by separate legal entities, mostly in the form of personal or corporate guarantors. Similarly, Ahnert and Kuncl (2022) report that 62% of outstanding residential mortgages were insured by the US government through the Government Sponsored Enterprises in 2018.…”

“…As remarked above, guarantees on lending contracts are common in practice. Focusing on thirdparty loan guarantees for residential mortgages, Ahnert and Kuncl (2022) present a model where this type of guarantee decreases lending standards but improves market liquidity. In their model, lenders can pass default risk to an outside guarantor upon origination, thus avoiding costly screening.…”