No. 258 On the Non-Exclusivity of Loan Contracts: An Empirical Investigation

by Hans Degryse, Vasso Ioannidou and Erik von Schedvin

FEBRUARY 2012 (Updated march 2015)

Abstract

We study how a bank's willingness to lend to a previously exclusive firm changes once the firm obtains a loan from another bank ("outside loan") and breaks an exclusive relationship. Using a difference-indifference analysis and a setting where outside loans are observable, we document that an outside loan triggers a decrease in the initial bank's willingness to lend to the firm i.e., outside loans are strategic substitutes. Consistent with concerns about co-ordination problems and higher indebtedness, we find that this reaction is more pronounced the larger the outside loan and it is muted if the initial bank's existing and future loans retain seniority and are protected with valuable collateral. Our results give a benevolent role to transparency enabling banks to mitigate adverse effects from outside loans. The resulting substitute behavior may also act as a stabilizing force in credit markets limiting positive co-movements between lenders, decreasing the possibility of credit freezes and financial crises.

JEL Classification Numbers

G21, G34, L13, L14.

Keywords

co-ordination failures, credit freezes, credit rationing, credit supply, debt seniority, floating charge, negative externalities, non-exclusivity, transparency.