The literature on applications of information economics to the problems of financial contracting and markets has almost come of age. Beginning with the seminal paper of Green (1973) on Rational Expectations equilibria with a priori heterogeneous information, and Rothschild and Stiglitz (1976) on adverse selection in insurance markets, this literature has progressed to provide us with analyses of phenomena such as: endogenous collection of information and its reflection in stock market prices (Grossman and Stiglitz, 1980), signalling with financial policy and disclosure choices (Bhattacharya, 1979; Bhattacharya and Ritter, 1983) by firms, the role of financial intermediation in efficient gathering and utilization of information about investment prospects (Leland and Pyle, 1977; Diamond, 1984), and the function of financial structure in dealing with various agency problems. As a result of these exciting developments, there exists the possibility today of building new approaches to the theories of alternative or complementary institutional structures and (comparative) economic systems in intertemporal settings, in order to examine the roles that these institutional mechanisms may play in attaining allocational efficiency and (perhaps) distributional objectives.

The essence of Franklin Allen's discursive and suggestive paper, as well as that of several other recent papers – such as those of Sharpe (1990), von Thadden (1990), and Dewatripont and Maskin (1990) – is to look at scenarios that go beyond environments in which direct, unduplicated, prudential monitoring of investment projects/firms by efficiently diversified intermediaries (Diamond, 1984) is sufficient to obtain (first-best) allocational efficiency.