CREDIT BUREAU POLICY AND SUSTAINABLE REPUTATION EFFECTS IN CREDIT MARKETS

Welfare-increasing reputation effects arise in credit markets when adv erse selection gives rise to borrower reputation formation incentives that mitigate moral hazard problems. This paper shows that welfare ste mming from reputation effects will diminish over time as the private i nformation of borrowers is revealed to lenders in the form of lengthen ing credit histories. Aggregate borrower welfare may therefore decreas e over time unless reputation effects can be sustained. Restricting a lender's access to a borrower's credit history via credit bureau polic y is shown to be one method of sustaining reputation effects and preve nting a decline in welfare.