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Abstract:By setting up behavioral models of loan securitization, we provide explanations for phenomenon during the Global Financial Crisis. Information inaccuracy in our models comes from optimism rather than moral hazard. We show that investors are insensitive to information about underlying loans, certain level of optimism is more profitable to banks than having perfect information, and benefit from securitization enhances banks’ optimal optimism level. Moreover, dominance of optimistic banks blurs quality differences in securitization products, leading to symmetric ignorance and higher susceptibility to shocks, which results in investors’ “flight-to-quality” in the securitization market. Our numerical analysis demonstrates influences of bank competition, security tranching and capital requirement. The findings highlight the importance of awareness of over-optimism in creating contagion of financial fragility

Full report ：No1-2018_Bank Optimism, Information Accuracy, and Securitization.pdf