■ Loans held by banks until 
     maturity/default  
        risk-management tool: construction 
          of diversified portfolios
    ☻ No discrepancy between real life and 
     banking paradigm (Diamond 84):
      
     Loans retention and diversification:
     debt-financed bks retain monitoring  
     incentives: 
         perform delegated monitoring
     
   bks keep being debt-financed 
    ■ extensively engage in 
   credit risk transfer (CRT):
   - first traded in 96, CRT vol.  $4.5 trill.;
   - CRT of unrated firms (bk m.) is 
   steadily increasing;
   -- portfolio products: 
   loan portfolio securitization: 26% of 
   CRT 
   → new pattern of financ. Intermediation: 
   Originate-To-Distribute (OTD) model
    Concern: mixed feelings about CRT
     Buffett: CRT ↓ stability: 
  • makes banks relinquinsh monit./screen
   Greenspan: CRT has insulated bks 
   and f.mkt  from corporate failures 
   (2000 US recession):
  • merits of CRT as risk-management tool
    Current credit mkt turmoil seems  to support 
   Buffett’s view and raise doubts about the 
   provision of incentives underlying OTD model 
    Questions:
  • Is the OTD model necessarily harmful ? 
     or are the CRT instruments used 
   distortionary?
  • If so why are they used?
  • What’s the role for prudential regulation?
       Previous literature
     CRT ↓ monit./screen. incentives.:
     ■ undermines the premise of 
    financial stability 
           
   This paper revisits the issue