FINANCIAL INTERMEDIATION, LOANABLE FUNDS, AND THE REAL SECTOR

We study an incentive model of financial intermediation in which firms as well as intermediaries are capital constrained. We analyze how the distribution of wealth across firms, intermediaries, and uninformed i nvestors affects investment, interest rates, and the intensity of moni toring. We show that all forms of capital tightening (a credit crunch, a collateral squeeze, or a savings squeeze) hit poorly capitalized fi rms the hardest, but that interest rate effects and the intensity of m onitoring will depend on relative changes in the various components of capital. The predictions of the model are broadly consistent with the lending patterns observed during the recent financial crises.