Financial intermediation as a beliefs-bridge between optimists and pessimists

Abstract

This paper proposes a new framework for understanding financial intermediation. In contrast to previous research, we consider a setting in which intermediaries possess no inherent information processing or monitoring advantages. Instead, in an economy with overly optimistic entrepreneurs who require funding from pessimistic investors, we show that intermediaries can arise endogenously. In such a setting, only a rational intermediary will be sufficiently optimistic to find it worthwhile to invest in a technology for screening entrepreneurs' projects, and yet be pessimistic enough to use this technology. Our framework produces implications consistent with heretofore unexplained stylized facts, and conjectures which are thus far untested.