Understanding informal financing

This paper offers a framework to understand informal financing based on mechanisms to deal with asymmetric information and enforcement. We find that const ructive informal financing such as trade credits and family borrowing that relies on informatio n advantages or an altruistic relationship is associated with good firm performance. Undergro und financing such as money lenders who use violence for enforcement is not. Constructive i nformal financing is prevalent in regions where access to bank loans is extensive, while its role in supporting firm growth decreases with bank loan availability. Inte rnational comparisons show tha t China is not an outlier but rather average in using informal financing