ABSTRACT
What goes into the making of financial intermediation? What is its production process? Based on our discussion in the previous chapter, the fundamental defining characteristic of finance is risk. Because finance takes place across time, and because no one has perfect information about a borrower's ability or willingness to repay in the future, engaging in a financial transaction is always an act of faith guided by judgment. According to Walter Bagehot (1873), credit is “the disposition of one man to trust another.” No lender will extend credit without some reasonable expectation that the borrower can meet the conditions of the financial transaction they are engaging in. There is only one way to create this reasonable expectation: the borrower has to provide specific, quality, and persuasive information about their ability and commitment to meeting their financial obligations. The most important theme of this chapter is that information is the most important input into financial intermediation. If lenders do not have the proper information and cannot be given adequate assurances of repayment, credit will not be granted regardless of other factors, including the interest rate the borrower might be willing to pay.
