THE BORROWERS CURSE - OPTIMISM, FINANCE AND ENTREPRENEURSHIP

This paper argues that most of the facts characterising small-scale bu sinesses, including high failure rates, reliance on bank credit rather than equity finance, relatively low interest rate margins, and credit rationing, can be explained by a tendency for those who are excessive ly optimistic to dominate new entrants. Drawing on findings in psychol ogy, we model entrants as relatively naive optimisers. Banks on the ot her hand are viewed as well informed and efficient processors of infor mation.