Trade Credit and Information Transmission

This study investigates the information transmission mechanism involved with the extension of trade credit. It is assumed that the supplier of intermediate goods is superior in acquiring information about the buyer due to specific business relationships between buyer and seller. To induce money from a bank, the supplier must convince the bank regarding good prospects of the buyer’s profit by assuming some risk through its trade credit and collateral assets. Moreover, trade credits are cheaper for the bank loan than bank loans for the buyer. Thus, when the buyer and supplier sign a trade credit contract, the supplier acquiring negative information on the buyer’s capability cannot extend trade credit. Then, trade credit works as a signaling cost to convince the bank. Moreover, because of imperfect information transmission, buyers and suppliers can convince the banks to issue loans for their business, even when the supplier has less positive information on the buyer’s capability