The Economics of Nonperforming Loans

Author Name KOBAYASHI Keiichiro (Faculty Fellow, RIETI)
Creation Date/NO. March 2022 22-P-003
Research Project Macroeconomic Policy and Political Philosophy toward Economic Growth
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This paper reviews the history of Japan's experience on the prolonged disposal of the nonperforming loans and summarizes a new theory of debt overhang. The disposal of the nonperforming loans was delayed because of the existence of the persistent expectations that any day, land price and stock prices will both rise, and the perception that the nonperforming loans are not the cause of the recession, but the result of it. Compartmentalized thinking and moral inconsistency or paternalism in the mindset of the policymakers is also a factor. The nonperforming loans cause the inefficiency of debt overhang. In the existing research, debt overhang is modeled as inefficiency due to the lack of borrower's commitment. In the new theory, we focus on the lack of lender's commitment, which discourages the borrowers and stagnates the economy. Debt reduction due to the disposal of nonperforming loans reduces the inefficiency of the lack of lender commitment and increase the payoffs of both the lender and borrower.