Information acquisition and financial contagion

This paper incorporates costly voluntary acquisition of information à la Nikitin and Smith (2007) [Nikitin, M., Smith, R.T., 2007. Information acquisition, coordination, and fundamentals in a financial crisis. Journal of Banking and Finance, in press, doi:10.1016/j.jbankfin.2007.04.031], in a framework similar to Allen and Gale (2000) [Allen, F., Gale, D., 2000. Financial contagion. Journal of Political Economy 108, 1–33], without relying on any unexpected shock to model contagion. In this framework, contagion and financial crises are the result of information gathering by depositors, weak fundamentals and an incomplete market structure of banks. It also shows how financial systems entering a recession can affect others with apparently stronger economic conditions (contagion). Finally, this is the first paper to investigate the effectiveness of the Contingent Credit Line procedures, introduced by the IMF at the end of the nineties, as a mechanism to prevent the propagation of crises.     

Sharing information in the credit market: Contract-level evidence from U.S. firms

We investigate the impact of lenders' information sharing on firms' performance in the credit market using rich contract-level data from a U.S. credit bureau. The staggered entry of lenders into the bureau offers a natural experiment to identify the effect of lenders' improved access to information. Consistent with the predictions of 35 and 36 and Pagano and Jappelli (1993), we find that information sharing reduces contract delinquencies and defaults, especially when firms are informationally opaque. The results also reveal that information sharing does not reduce the use of guarantees, that is, it may not loosen lending standards.     

Financial contagion and depositor monitoring

This paper analyzes market discipline in a many-bank economy where contagion and bank runs interact. We present a model with differently-informed depositors, where those depositors that are more informed have incentives to monitor banks’ investments. It is shown that when banks are undercapitalized, and the probability of success of the risky asset is low, depositors might prefer a contract that is subject to bank runs in the interim period to a contract that allows banks to gamble with their funds and maintain their investment.The results of the paper emphasize the benefits of private monitoring of banks in order to promote market discipline.     

Firm age and the evolution of borrowing costs: Evidence from Japanese small firms

This paper investigates how firms’ borrowing costs evolve as they age. Using a new panel data set of about 100,000 bank-dependent small firms for 1997–2002 and focusing on the channel of “adaptation” (i.e., surviving firms’ borrowing costs decline as they age) and that of “selection” (i.e., total borrowing costs decline as defaulting firms exit), we find that the reputation hypothesis suggested by Diamond (1989) provides a more plausible explanation of the downward sloping age profile of borrowing costs than the firm dynamics (Cooley and Quadrini, 2001) or the relationship banking (Boot and Thakor, 1994) hypothesis. In addition, we examine whether the firm selection process in Japan has been natural or unnatural. Our findings suggest that it has been natural in that firms with lower quality are separated, face higher borrowing costs, and are eventually forced to exit, which contrasts with the results of previous studies on credit allocations in Japan, including Peek and Rosengren (2005). Further, we find that the evolution of borrowing costs is partially due to selection but is mainly attributable to adaptation.     

AGENT BANK BEHAVIOR IN BANK LOAN SYNDICATIONS

Using Shared National Credit (SNC) Program data from 1995 to 2000, we extend previous empirical work on bank loan syndications. First, we examine recent trends in the volume and examiner‐based credit quality of loans syndicated through the banking system. Second, we estimate a panel regression model to explain changes in an agent bank's retained share of a syndicated loan in terms of information asymmetries, loan credit quality, capital constraints, and loan age and maturity. We find that these variables are significant determinants of the proportion of a SNC loan retained by an agent bank for its portfolio over time.     

On syndicate composition, corporate structure and the certification effect of credit ratings

We assess the relative importance of ratings versus stock exchange listings in reducing information asymmetry using a dataset of syndicated loans to public and private firms in the UK. We find that the certification effect of ratings is largest for private firms and that syndicates are smallest if firms are privately held or unrated. Moreover, we find that the marginal effect of being stock exchange listed is insignificant once these firms are rated. Exploiting the heterogeneity among lenders, we find that especially foreign bank and non-bank investors do not provide capital if firms are unrated. Our paper highlights the information produced by rating agencies as an important mechanism by which ratings improve access to capital. Our results also emphasize the importance of syndicate moral hazard on the supply of uninformed capital: bank-borrower relationships significantly increase the loan share syndicated to investors particularly if firms are not listed and unrated.     

THE INFORMATIONAL ROLE OF BANK LOAN RATINGS

We analyze the relatively new phenomenon of credit ratings on syndicated loans, asking first whether they convey information to the capital markets. Our event studies show that initial loan ratings and upgrades are not informative, but downgrades are. The market anticipates downgrades to some extent, however. We also examine whether public information reflecting borrower default characteristics explains cross‐sectional variation in loan ratings and find that ratings are only partially predictable. Our evidence suggests that loan and bond ratings are not determined by the same model. Finally, we estimate a credit spread model incorporating bank loan ratings and other factors reflecting default risk, information asymmetry, and agency problems. We find that ratings are related to loan rates, given the effect of other influences on yields, suggesting that ratings provide information not reflected in financial information. Ratings may capture idiosyncratic information about recovery rates, as each of the agencies claims, or information about default prospects not available to the market.     

Tests of ex ante versus ex post theories of collateral using private and public information

Collateral is a widely used, but not well understood, debt contracting feature. Two broad strands of theoretical literature explain collateral as arising from the existence of either ex ante private information or ex post incentive problems between borrowers and lenders. However, the extant empirical literature has been unable to isolate each of these effects. This paper attempts to do so using a credit registry that is unique in that it allows the researcher to have access to some private information about borrower risk that is unobserved by the lender. The data also include public information about borrower risk, loan contract terms, and ex post performance for both secured and unsecured loans. The results suggest that the ex post theories of collateral are empirically dominant, although the ex ante theories are also valid for customers with short borrower–lender relations that are relatively unknown to the lender.     

Liquidity uncertainty and intermediation

The paper performs a welfare comparison between demand deposit and equity contracts in the presence of intrinsic aggregate uncertainty. In this framework, the welfare dominance of deposit contracts emerges under corner preferences. It is shown that aggregate uncertainty creates high price volatility of ex-dividend equity claims traded in a secondary market and the resulting consumption allocations offer less risk-sharing opportunities to risk-averse consumers than tailor-made deposit contracts. The contingency of early payoffs on depositors’ withdrawal order reinforces the welfare performance of deposit contracts, whereas costly liquidation of productive long-term investments deteriorates their welfare performance relative to equity contracts.     

Subprime mortgage design

This paper offers evidence on the design of subprime mortgages as bridge-financing products. We show that the viability of subprime mortgages was uniquely predicated on the appreciation of house prices over short horizons. High rates of early prepayments on subprime mortgages suggest the use of prepayments as an exit option. This paper argues that high early defaults on post-2004 originations can be explained when one considers high early prepayment rates for pre-2004 originations.     

Business credit information sharing and default risk of private firms

We investigate whether and how business credit information sharing helps to better assess the default risk of private firms. Private firms represent an ideal testing ground because they are smaller, more informationally opaque, riskier, and more dependent on trade credit and bank loans than public firms. Based on a representative panel dataset that comprises private firms from all major industries, we find that business credit information sharing substantially improves the quality of default predictions. The improvement is stronger for older firms and those with limited liability, and depends on the sharing of firms’ payment history and the number of firms covered by the local credit bureau office. The value of soft business credit information is higher the smaller the firms and the lower their distance from the local credit bureau office. Furthermore, in spatial and industry analyses we show that the higher the value of business credit information the lower the realized default rates. Our study highlights the channel through which business credit information sharing adds value and the factors that influence its strength.     

Information disclosure in credit markets when banks’ costs are endogenous

In this paper we develop a model of information disclosure among banks based on an endogenous interest rate for externally placed debt. Banks with private credit information are given an opportunity to disclose information prior to competing for borrowers. While disclosure eliminates a bank’s information advantage over its competitors, disclosing information creates a new advantage for the bank in terms of a lower cost of external funds. We find that the incentive for a bank to disclose information is inversely related to the bank’s capital ratio and positively related to the number of other banks that disclose information.     

What drives foreign expansion of the top 100 multinational banks? The role of the credit reporting system

This study explores how information costs, proxied by characteristics of credit reporting systems, affect the foreign expansion of the top 100 multinational banks. We find that banks prefer to expand operations in countries where private credit bureaus exist or where the credit reporting system is of better quality. This preference is particularly strong for banks’ branch decisions. Furthermore, banks prefer subsidiary entry only in countries where private credit bureaus exist with better credit information quality. Overall, our results indicate that banks are attracted to countries where the credit reporting system helps reduce banks’ information costs.     

Option Compensation and Industry Competition

Compensation policy has become one of the most important ingredientsof corporate governance. In this paper we take a new look atthe issue, by contrasting the use of options with that of stock.We do this by integrating the repricing or resetting aspectof options with that of industrial structure. We show that industrycompetition may play an important role in dictating which formof compensation is optimal. When aggressive competition forkey professional staff is an issue, the flexibility of optionsmay actually become a disadvantage and therefore pure stockcompensation may survive as an equilibrium. Thus compensationtrends may be partly explained by trends in the nature of thecompetitive environment.     

Financial constraints of private firms and bank lending behavior

We investigate whether and how financial constraints of private firms depend on bank lending behavior. Bank lending behavior, especially its scale, scope and timing, is largely driven by bank business models which differ between privately owned and state-owned banks. Using a unique dataset on private small and medium-sized enterprises (SMEs) we find that an increase in relative borrowings from local state-owned banks significantly reduces firms’ financial constraints, while there is no such effect for privately owned banks. Improved credit availability and private information production are the main channels that explain our result. We also show that the lending behavior of local state-owned banks can be sustainable because it is less cyclical and neither leads to more risk taking nor underperformance.