Social Tied Information: Friendship Networks and Information Asymmetry in Online P2P Lending

Friendship networks always plays an important role in economic activities. Since Akerlof (1970) introduced informational issues at the forefront of economic theory and Spence (1973) proposed the idea of signalling theory, a large number of studies discovered how to  mitigate the negative effect of information asymmetry in many area including economics and finance. In the traditional lending market, the problem are known as adverse selection and moral hazard. The underwriting process normally depends on hard information such as debt-to-income ratio. Information that is difficult to completely summarise in a numeric score is called soft information, which is important characteristics of the borrowers and of lending decisions. The P2P online lending is a decentralised form of money lending that connects borrowers and lenders through online services. How can lenders address the problem of information asymmetry in the online lending? A most cited P2P paper proposed a study of  the online friendships and Information Asymmetry in online P2P lending using data in Prosper.com.

Mingfeng Lin, Nagpurnanand R. Prabhala and  Siva Viswanathan study the online market for P2P lending, in which individuals bid on unsecured micro loans sought by other individual borrowers. They found that the online friendships of borrowers act as signals of credit quality. Friendships increase the probability of successful funding, lower interest rates on funded loans, and are associated with lower ex post default rates. The economic effects of friendships show a striking gradation based on the roles and identities of the friends.

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