Cyclicality of credit supply: Firm level evidence

Abstract

Theory predicts that there is a close link between bank credit supply and the evolution of the business cycle. Yet fluctuations in bank-loan supply have been hard to quantify in the timeseries. While loan issuance falls in recessions, it is not clear if this is due to demand or supply. We address this question by studying firms' substitution between bank debt and non-bank debt (public bonds) using firm-level data. Any firm that raises new debt must have a positive demand for external funds. Conditional on issuance of new debt, we interpret firm's switching from loans to bonds as a contraction in bank credit supply. We find strong evidence of substitution from loans to bonds at times characterized by tight lending standards, high levels of non-performing loans and loan allowances, low bank share prices and tight monetary policy. The bank-to-bond substitution can only be measured for firms with access to bond markets. However, we show that this substitution behavior has strong predictive power for bank borrowing and investments by small, out-of-sample firms. We consider and reject several alternative explanations of our findings. CYCLICALITY OF CREDIT SUPPLY: FIRM LEVEL EVIDENCETheory predicts that there is a close link between bank credit supply and the evolution of the business cycle. Yet fluctuations in bank-loan supply have been hard to quantify in the timeseries. While loan issuance falls in recessions, it is not clear if this is due to demand or supply. We address this question by studying firms' substitution between bank debt and non-bank debt (public bonds) using firm-level data. Any firm that raises new debt must have a positive demand for external funds. Conditional on issuance of new debt, we interpret firm's switching from loans to bonds as a contraction in bank credit supply. We find strong evidence of substitution from loans to bonds at times characterized by tight lending standards, high levels of non-performing loans and loan allowances, low bank share prices and tight monetary policy. The bank-to-bond substitution can only be measured for firms with access to bond markets. However, we show that this substitution behavior has strong predictive power for bank borrowing and investments by small, out-of-sample firms. We consider and reject several alternative explanations of our findings.

Credit market frictions and capital structure dynamics

“…In particular, we assume that if a firm decides to issue debt, then it has to search for creditors. 5 In the analysis below, we assume that creditors appear to firms with constant Poisson arrival rate λ > 0. That is, conditional on searching, the probability of getting financing from new creditors over each time interval [t, t + dt] is λdt and the expected financing lag is 1/λ.…”

“…We respectively denote by A and S the sets of such admissible restructuring and default policies. 5 A growing body of literature argues that assets prices are more sensitive to supply shocks than standard asset pricing theory predicts. Search theory plays a key role in the formulation of models capturing this idea (see e.g.…”

“…To complete the characterization of equity value, we need to derive the optimality conditions corresponding to the restructuring strategy that solves problem (5). In the Online Appendix, we establish the following result.…”

“…Assume that issuance costs are such that q < τ . Then for any constant X d (1) > 0 there exists a unique barrier restructuring strategy P = P(X d (1)) = (a * , δ(X d (1))) that solves problem (5) and is characterized by…”

Prudential Constrains of Banks Lending Activities After Financial Crisis

“…Higher yield loan portfolio has been partially replaced with government bonds and other lower yield securities that can increase portfolio credit quality and increase the volume of liquid assets (Eken et al, 2012) in empirical evidence concluded that banks credit lines where replaced with stronger issued corporate bonds that can be partially explained with sovereign debt crisis of some European countries (Becker and Ivashina, 2014). More than the other participants, small and EURO AREA Croatia USA medium sized companies are exposed to financing shock in credit supply of banking sector without alternative refinance sources and the limits in access to financial markets (Hadeel et al, 2015).…”