Seminar by Arthur Taburet (Duke University)

Informal Seniority

Abstract: We study how lenders compete for repayment priority in environments with selective default. We document that lenders obtain informal seniority by increasing borrowers' continuation values through credit limits, interest rates, and cross-selling. We show that such competition can lead to either over- or underprovision of relationship benefits. Because of these opposing forces, widely used cross-default provisions may be suboptimal, and reducing competition or raising origination costs can increase welfare. We develop a sufficient statistic approach to quantify the impact of those policies.