#04-23:

We examine  group-lending under sequential financing. In a model with moral hazard, social capital and endogenous group formation, we identify conditions such that sequential financing with joint liability  leads to positive assortative matching between borrowers with and without social capital and, moreover,  `bad' borrowers are partially screened out, thus resolving the moral hazard problem to some extent. Further, if the later loans are not too delayed, then under these conditions the expected payoff of the bank is greater compared to that under joint liability lending. Positive assortative matching or sequential financing (specially in the absence of joint liability) are no panacea though.

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