Limited Information, Credit Rationing, and Optimal Government Lending Policy

Abstract

A model of credit rationing based on asymmetrically informed borrowers and lenders is developed. In this context, sufficient conditions are derived for an appropriate government policy response to credit rationing to be a continuously open discount window. It is also demonstrated that such a policy can be deflationary, and that given a commitment to operate in this way, the monopoly issue of liabilities can Pareto dominate their competitive issuance.

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