In this paper, we provide a novel rationale for credit ratings. The rationale that we propose is that credit ratings can serve as a coordinating mechanism in situations where multiple equilibria can obtain. We show that credit ratings provide a "focal point" for firms and their investors.We explore the vital, but previously overlooked implicit contractual relationship between a credit rating agency and a firm. Credit ratings can help fix the desired equilibrium and as such play an economically meaningful role. Our model provides several empirical predictions and insights regarding the expected price impact of ratings changes, the discreteness in funding cost changes, and the effect of the focus of organizations on the efficacy of credit ratings.2

In this paper, we provide a novel rationale for credit ratings. The rationale that we propose is that credit ratings can serve as a coordinating mechanism in situations where multiple equilibria can obtain. We show that credit ratings provide a "focal point" for firms and their investors.We explore the vital, but previously overlooked implicit contractual relationship between a credit rating agency and a firm. Credit ratings can help fix the desired equilibrium and as such play an economically meaningful role. Our model provides several empirical predictions and insights regarding the expected price impact of ratings changes, the discreteness in funding cost changes, and the effect of the focus of organizations on the efficacy of credit ratings.2

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The increasingly competitive environment poses challenges to bankers. This paper emphasizes relationship banking as a prime source of the banks' comparative advantage. The proliferation of transaction-oriented banking (trading and financial market activities) does however seriously challenge relationship banking.Competition from financial markets may well destabilize (traditional) durable relationships. However, we argue that, contrary to what many believe, banks may optimally respond by increasing relationship-specific investments. These observations echo the insights generated by fundamental research in the area of financial intermediation, and seem consistent with banks' recent strategic choices. We subsequently analyze the implications for the competitive positioning of banks. To this end, we discuss the rationales and empirical evidence regarding the recent consolidation and conglomeration trend in the financial sector, and the implications for both the industrial structure and the optimal internal organization of banks. We also discuss the potential disaggregation of the value chain via joint ventures or outsourcing.JEL Classification: G20, G21

No abstract