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Can third party's collateral arrangements tackle the financing problem of small‐medium enterprises?

Can third party's collateral arrangements tackle the financing problem of small‐medium enterprises? Purpose – Faced with the financing problem of small‐medium enterprises (SMEs), China has attempted to establish as many as third party's collateral institutions. The paper aims to study the design of collateral arrangements including collateral fee rates, risk sharing, collateral capital requirements, types of collateral institutions and recollateral institution, etc. Design/methodology/approach – The paper extends the model of Holmstrom and Tirole to develop the analytic framework of the theory of financing collateral. From the perspective of contract design, the paper establishes a moral hazard model focusing on the minimum capital requirement of the borrower under the condition of risk neutral and limited liability, while considering the structure of lender‐collateral institution‐borrower. Findings – According to the research, only under certain conditions can third party's collateral arrangements tackle the financing problems of SMEs. Diversification, anti‐collateral and linked‐transactions are three means to improve financing conditions, but the most important way is efficient monitoring by collateral institutions, especially when it has relative advantage over the lender. In order to improve financing conditions of SMEs, China should rely more on efficient monitoring by banks not on excess development of collateral institutions, meanwhile relax rigid collateral supervision policies. Collateral institutions should be industry‐specific, association or transaction‐related type. Originality/value – First, from the perspective of contract design, the paper analyzes the comprehensive institutional arrangements of third party's collateral considering mutual relationships of component elements and develops the analytic framework of the theory of third party's collateral, especially points out necessary conditions of its efficient arrangements. Second, the paper studies various efficient financing mechanisms under the institutional arrangements of third party's collateral and focusing on the role of monitoring and monitors, and the paper also has important policy implications, i.e. the paper should develop specific collateral institutions and promote monitoring role of credit institutions. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png China Finance Review International Emerald Publishing

Can third party's collateral arrangements tackle the financing problem of small‐medium enterprises?

China Finance Review International , Volume 3 (4): 28 – Oct 25, 2013

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Publisher
Emerald Publishing
Copyright
Copyright © 2013 Emerald Group Publishing Limited. All rights reserved.
ISSN
2044-1398
DOI
10.1108/CFRI-08-2012-0094
Publisher site
See Article on Publisher Site

Abstract

Purpose – Faced with the financing problem of small‐medium enterprises (SMEs), China has attempted to establish as many as third party's collateral institutions. The paper aims to study the design of collateral arrangements including collateral fee rates, risk sharing, collateral capital requirements, types of collateral institutions and recollateral institution, etc. Design/methodology/approach – The paper extends the model of Holmstrom and Tirole to develop the analytic framework of the theory of financing collateral. From the perspective of contract design, the paper establishes a moral hazard model focusing on the minimum capital requirement of the borrower under the condition of risk neutral and limited liability, while considering the structure of lender‐collateral institution‐borrower. Findings – According to the research, only under certain conditions can third party's collateral arrangements tackle the financing problems of SMEs. Diversification, anti‐collateral and linked‐transactions are three means to improve financing conditions, but the most important way is efficient monitoring by collateral institutions, especially when it has relative advantage over the lender. In order to improve financing conditions of SMEs, China should rely more on efficient monitoring by banks not on excess development of collateral institutions, meanwhile relax rigid collateral supervision policies. Collateral institutions should be industry‐specific, association or transaction‐related type. Originality/value – First, from the perspective of contract design, the paper analyzes the comprehensive institutional arrangements of third party's collateral considering mutual relationships of component elements and develops the analytic framework of the theory of third party's collateral, especially points out necessary conditions of its efficient arrangements. Second, the paper studies various efficient financing mechanisms under the institutional arrangements of third party's collateral and focusing on the role of monitoring and monitors, and the paper also has important policy implications, i.e. the paper should develop specific collateral institutions and promote monitoring role of credit institutions.

Journal

China Finance Review InternationalEmerald Publishing

Published: Oct 25, 2013

Keywords: Financing problem of SMEs; Mechanism design; Third party's collateral arrangements

References