Faculty of Economics and Business Administration Publications Database

Multi-Bank Loan Pool Contracts: Enhancing the Profitability of Small Commercial Banks

Gintschel, Andreas
Volume: 14
Number: 17
Pages: 1239 - 1252
ISSN-Print: 0960-3107
Link External Source: Online Version
Year: 2004
Abstract: The study shows that multi-bank loan pool contracts improve the risk-return profile of banks’ loan business. Banks write simple contracts on the proceeds from pooled loan portfolios, taking into account the free-rider problems in joint loan production. Thereby especially smaller banks benefit greatly from diversifying credit risk while limiting the efficiency loss due to adverse incentives. Calibration results are presented for a sample of German savings banks: the formation of loan pools reduces the volatility in default rates, proxying for credit risk, of loan portfolios by roughly 80%. Under reasonable assumptions, the gain in return on equity (in certainty equivalent terms) is around 200 basis points annually.