Abstract
We study repurchase options (repo contracts) in a competitive asset market with asymmetric information. Gains from trade emerge from a liquidity need, but private information about asset quality prevents the full realization of trade. We obtain a unique equilibrium, which features a pooling repo contract and full participation among borrowers. The equilibrium repo contract resolves adverse selection: the embedded repurchase option prevents the market unraveling that occurs in asset-sale markets. However, the contract is inefficient due to cream skimming. Competition to attract high-quality borrowers through the terms of the repurchase option inefficiently lowers liquidity. The equilibrium contract has a closed form and is portable to many applications.
Sign-in/Register to access full text options 
Free) 
Talk to us
Join us for a 30 min session where you can share your feedback and ask us any queries you have
Schedule a call
