Abstract: Financial interlinkage, in the form of cross-holding of equity and debt between rms, characterizes business groups in many countries.We suggest that such nancial interlinkage can be viewed as a way to solve credit rationing caused by asymmetric information.If rms possess better information about each other than a bank, then business groups can be a mechanism to induce rms to sort on the basis of this information.Banks can offer a menu of contracts that vary in the extent of nancial interlinkage to induce rms to self-select on the basis of the equilibrium composition of the business groups they can form.