>What is the "theory of adverse selection"? And where in Smith is it
>explained?
High interest rates chase away good borrowers, leaving only the reckless and/or criminal in the market. Smith says in book II, chapter 4 of the Wealth Of Nations (part of a passage urging legal ceilings on interest rates):
"If the legal rate of interest in Great Britain, for example, was fixed so high as eight or ten percent, the greater part of the money which was to be lent would be lent to prodigals and projectors, who alone would be willing to give this high interest. Sober people, who will give for the use of money no more than a part of what they are likely to make by the use of it, would not venture into the competition. A great part of the capital of the country would thus be kept out of the hands which were most likely to make a profitable and advantageous use of it, and thrown into those which were most likely to waste and destroy it."
Doug