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First, we look at the circumstances in which there is only one RA inside the market industry. To create RA1 a good monopolist, we lay the newest reputation for RA2 so you’re able to 0.
Figure 3 plots the strategy of the monopolistic RA for parameters ( ? , pGrams , ? ) = (0.5, 0.7, 0.9). 19 19 Note that, we have chosen this set of parameters ( ? , pG , ? ) = (0.5, 0.7, 0.9) for the purpose of illustration only, and verified that our results are robust to other parameter specifications, the plot of which are available upon request. In particular, robustness checks of the main results (Section 5.3) are presented in Appendix B. We can clearly see the strategy of RA1 is “u-shaped” in its reputation. Intuitively, the RA’s strategy is determined by the trade-off between current fees and expected future income. When its reputation is very low, the RA’s expected future income is very small compared to current fees, hence it has little incentive to behave honestly. When its reputation increases, the RA’s future income becomes larger while current fees stay the same, the RA tends to lie less. However, when the RA’s reputation is very high, the penalty for lying decreases, and the RA starts to lie more. The reason that the penalty for lying decreases with reputation is that investors attribute project failures to bad luck rather than lax behaviour when they believe that the RA is very likely to be of the honest type.
Moreover, we can see from Figure 4 that the strategy of RA1 is increasing in ? but decreasing in pG . 20 20 We have also verified that this result holds in the case of competitive RAs, the plots of which are available upon request. The intuition is that, the reputational penalty of lying depends on how the investors update their beliefs. If projects are more likely to be good (higher ? ) or if good projects are more likely to fail (lower pG ), then a failure is more likely to be attributed to bad luck rather than lying. Anticipating this smaller cost of lying on reputation, the RA would choose to lie more when ? increases or pG decreases.
We now look at the impact of competition on the behaviour of RA by introducing a second RA (RA2). Figure 5 plots the strategy of RA1 for parameter values ( ? , pG , ? ) = (0.5, 0.7, 0.9). Figures 6 and 7 show cross sections of this figure, for different values of q2 and q1 , respectively.
As we can see, the relationship between the reputation and strategy of RA1 remains “u-shaped” as in the monopolistic case. Moreover, as the reputation of RA2 increases, the reputation at which RA1 has minimum x1 , that is, is least likely to lie, also increases. This is not surprising as the disciplining effect is greatest when the reputation of the competing RA (RA2) is close to the reputation of RA1. This is because when the RAs’ reputations are close, it is more likely that the market leadership will change, resulting in more disciplined behaviour. Conversely, if the two RAs have very different reputations, the disciplining effect is relatively weaker.
Furthermore, while the Profile 7 shows, the techniques regarding RA1 was initially coming down which have otherwise apartment in RA2’s profile, following growing. Which effectation of battle was a mix of the fresh new disciplining impression and also the business-sharing perception. The new disciplining impact are most powerful in the event the a few RA’s reputations is personal, and you may weakest in the event the several RA’s reputations is much apart, which suggests that the likelihood of an improvement away from business leader is quite small. As well, the market industry-revealing perception is broadening regarding the competing RA’s reputation. When the muslima reputation of RA2 was lower, industry-sharing impact is extremely brief while the RA2 can only pull away a tiny fraction of business. Given that RA2’s reputation starts to improve, RA1 does sit less given that disciplining effect reigns over the fresh market-discussing effect. However, when RA2’s profile exceeds a certain top, the market industry-revealing impression reigns over given that RA2’s reputation becomes a lot higher than RA1’s. Hence, RA1 have a tendency to lay a whole lot more for highest beliefs off RA2’s character, considering the prominence of one’s field-sharing effect.
