Instead of lending prudently, lenders are incentivized to overlend
, with the knowledge that any default will be covered by the state.
But there's still a healthy caution by lenders not to overlend
Implicitly, however, even without mandatory lending interest rates, the Big Four banks had an incentive to overlend
to large SOEs, especially after 1998.
Government involvement helps encourage homebuilders to overbuild, lenders to overlend
, and borrowers to overborrow.
The result is over-confident lenders who overlend
at interest rates that do not adequately reflect all of the hazards inherent in these complicated financings.
He shows that even at a microprudential level there remain difficulties with the upcoming Basel 2 framework, but the principal concern is with endogenous risk and procyclicality, as banks may overlend
in booms, and credit crunches ensue as realised credit risk rises, driving up capital requirements under Basel 2 in recessions.
By this is implied the recent critique that the Fund has bailed out private capital markets and thereby created a moral hazard problem, in the sense that the prospect of bailouts encourages private markets to overlend