Credit and equity rationing in markets with adverse selection

Previous theories of financial market rationing focussed on a single market , either the credit or the equity market. An interesting question is whethe r credit and equity rationing are mutually compatible, and how they interac t. We consider a model with two-dimensional asymmetric information, where e ntrepreneurs have private information about both the expected returns and t he risk of their projects. We show that credit and equity rationing may occ ur individually or simultaneously. Moreover, competition between the two ma rkets may generate the adverse selection that leads to rationing outcomes. (C) 2000 Elsevier Science B.V. All rights reserved. JEL classification: G1.