Monitoring, Liquidation, and Security Design under Securitization
45 Pages Posted: 7 Sep 2007
Date Written: February 5, 2007
Abstract
This article examines the effect of securitization on the ex ante monitoring and ex post liquidation decisions of the issuer in the context of adverse selection. It characterizes those decisions as explicit functions of observable parameters that are related to securitization. If liquidity requirements lead the issuer to use senior/subordinated security design, the main result is that limited information (unmonitored finance) and soft-budgeting (excessive continuation) problems arise even though neither limited information nor soft-budgeting is socially efficient. The issuer's need for more liquidity is more likely to lead to unmonitored finance and excessive continuation problems. On the other hand, the results indicate that these problems are less likely to be the result of superior monitoring technology and higher liquidation values, and are more likely to be the result of higher asset returns with success. Furthermore, the results suggest that issuers with weaker capital or less liquidity are more likely to securitize their assets. The results provide a number of empirically testable implications relating to the degree of securitization, some of which are consistent with existing empirical evidence.
Keywords: asset-backed securities, liquidation, monitoring, securitization, security design
JEL Classification: D82, G12, G21, G33, L51
Suggested Citation: Suggested Citation
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