Inter-Temporal Calculative Trust Design to Reduce Collateral Need for Business Credits

Credit rationing arising out of informational asymmetry and lack of collateral has been an established economic constraint. These constraints are magnified for small businesses. We have made an attempt to capture the dimension of trustworthiness (calculative trust) by designing a multi-period incentivized payment structure that will induce economic agents to reveal existence of private information about any projects or true intentions of paying up the credit that is going to fund the project. The model dynamically estimates the collateral needed by taking into account the truthfulness of the borrower. The proposed design is compared with the benchmark model - credit scoring based model. Randomized simulations are carried out for the ex-ante solution of the borrower. We found that the proposed design outperforms from the prospective of lenders when probability of default of any project is less than 80 per cent. Our simulation result also found that trust building helps the small business owner to significantly reduce the need for collateral