Bank lending, liquidity shocks and economicactivity: Evidence from the syndicated loan market

in the U.S.

Tamara Kochubey

CERGE-EI, Prague

March 5, 2013Brown Bag Seminar

Motivation• Importance of banks as liquidity providers• Liquidity crisis of 2007-2009• Lending collapse following the crisis

Figure: New loan originations to U.S. borrowers from 2000 – 2011(Dealscan).

Research questions

Do problems in banking sector can be transmitted to the realeconomy through bank lending?

1. Does shock to bank health affect bank lending?2. Does shock to bank health or change in bank lending

affect the real economy?

Related Literature

Impact of deterioration of banks’ financial health on the realeconomy:• Gan (2007), Khwaja and Mian (2008): bank lending and firmperformance in Japan and Pakistan

• Gozzi and Goetz (2010): bank lending and performance inU.S. metropolitan areas during the recent crisis

• Wardlaw (2010): changes in a bank’s health significantly affectinvestment of U.S. firms during 1988-2007

• Driscoll (2004), Ashcraft (2006), Jimenez et al (2010): bankhealth has no effect on the real economy

Bank lending behavior during the recent crisis in the U.S.:• Ivashina and Scharfstein (2010), Cornett et al (2011)

Research Gap: relationship between shocks to bank health andfirm performance in U.S. after the recent financial crisis

Contribution to the Literature

• Examine bank lending in the U.S. following the recent financialcrisis using a dataset of new loan originations

• Control for selection bias arising when firms with single lendingrelationships are excluded from the analysis

• Study the effect of shocks to bank health and change in banklending on firms’ performance in U.S. following the recentfinancial crisis

• Provide evidence on how valuable are banking relationships formedium and large firms

Methodology• Financial crisis of 2007-2009 as a shock to banks’ liquidity• Collapse of ABCP market and dry-up of the interbank market• Deposits and core deposits as stable sources of funding

(Ivashina and Scharfstein, 2010; Cornett et al, 2011)

Timeline of the crisis in the TED spread:

Crisis period: 2007 q3 - 2009 q2

Methodology1. Does shock to bank health affect bank lending?[based on Gan, 2007; Khwaja and Mian, 2008]

4Lendingij(t) = β1 + β2Liq.Exposurei (t − 1) + β3Bank Controlsi (t − 1)+

+β4Relationshipij(t − 1) + β5Firm FEj + eij

Pre-crisis period (t − 1): 2005 q3 - 2007 q2Post-crisis period (t): 2009 q3 - 2011 q2

• 4Lendingij : change in log of total credit provided by bank i to firmj between the post-crisis and the pre-crisis periods

• Liquidity Exposurei : is the share of core deposits to banks’ totalassets measured in the pre-crisis period

• Bank Controlsi : bank size, liquid assets, equity to assets ratio,non-performing loan ratio, return on assets

• Relationshipij : is the number of years when firm j had a positiveloan amount from bank i in past 10 years (1995-2004)

Methodology

Heckman two-stage model

First stage (selection equation):• Probit (being a firm with multiple lending relationships

(t − 1)) =f (firm and bank controls in (t − 2))• Bank Controls : size, liquidity, capital ratio, return on assets,nonperforming loan ratio

• Firm Controls : size, leverage, cash, tangibility,market-to-book, return on assets, sales

Second stage:4Lendingij(t) = β1 + β2Liq.Exposurei (t − 1) + β3Bank Controlsi (t − 1)+

+β4Relationshipij(t − 1) + β5Firm FEj + IMR + eij

Methodology2a. Does shock to bank health affect the real economy?[based on Gan, 2007; Khwaja and Mian, 2008]

4Yj(t) = α1 + α2Liq.Exposurej(t − 1) + α3Firms ′ Controlsj(t − 1) + ej

• 4Yj(t): change in firms’ financial and performance measuresbetween two periods

• Yj : leverage, net debt and equity issuance, cash holdings,investment rate, profit and employment

• Liquidity Exposurej : is, for each firm j , the weighted average level ofexposure of the banks that are lending to the firm in the pre-crisisperiod; bank liquidity exposure is measured by a share of coredeposits to bank’s total assets

• Firms ′ Controlsj : industry and state dummies, firm size, collateral,interest coverage, market-to-book ratio, return on assets, cashholdings, cash flow, leverage, sales, net worth

Methodology

2b. Does change in bank lending affect the real economy?

4Yj(t) = γ14 ˜Lendingj(t) + γ24Firms ′ Controlsj(t) +4ej(t),

4 ˜Lendingj (t) =∑

i (β̂1 + β̂2Liquidity Exposurei (t − 1)+

+β̂3Bank Controlsi (t − 1) + β̂4Relationshipij (t − 1)).

• 4Yj : change in firms’ leverage, net debt issuance, net equityissuance, cash holdings, investment rate, profit and employment

• 4 ˜Lendingj : is the predicted change in lending of all banks financingfirm j

• Firms ′ Controlsj : firm size, collateral, market-to-book ratio, returnon assets, cash flow, sales, net worth

Data Description

Data sources: U.S. based

1. Thomson Reuters Dealscan - loan transactions2. FDIC Call Reports – financial statement data for U.S. banks3. Compustat – balance sheet data for U.S. firms

Sample:

• Pre-crisis period: 2005 q3 - 2007 q2• Post-crisis period: 2009 q3 - 2011 q2• Loan-level: 7,074 bank-firm pairs, 110 banks and 3,357 firms• Firm-level: 1,109 distinct firms

Descriptive Statistics

N Mean St. Dev.Loan Level∆Log(Total Lending) 7,585 -5.331 14.644Core Deposits (t-1) 7,585 0.236 0.101Liquid Assets (t-1) 7,585 0.153 0.122Bank Size (t-1) 7,585 18.807 2.169Capital Ratio (t-1) 7,585 0.124 0.117ROA (t-1) 7,585 0.004 0.005NPL (t-1) 7,585 0.008 0.005

Firm Level∆Leverage 1,310 0.041 0.649∆Net Debt Issuance 1,226 -0.067 0.272∆Net Equity Issuance 1,226 -0.014 0.234∆Cash 1,312 0.014 0.084∆Investment 1,214 -0.112 0.321∆Profit 1,295 -0.007 0.059∆Log Employment 1,245 0.004 0.343Core Deposits 1,446 0.103 0.075

∆ ˜Lending 1,607 -16.288 12.208

Pre-Crisis Average Sample Characteristics of Low and HighExposure Banks

Low High Difference t-statisticPre-crisis Total Lending (USD mln) 9.235 11.949 -2.714*** -3.90Banks’ characteristicsTotal Assets (USD mln) 61.094 57.398 3.696 0.11Bank Size 15.456 16.009 -0.553 -1.21Liquid Assets 0.202 0.167 0.035 1.23Capital Ratio 0.118 0.169 -0.051* -1.81ROA 0.003 0.005 -0.002 -1.25NPL 0.012 0.008 0.004** 2.29Firms’ characteristicsFirm’s Size 7.965 7.514 0.451*** 8.69Collateral 0.450 0.459 -0.009 -1.07Market-to-Book 1.524 1.490 0.034 1.08ROA 0.014 0.012 0.002** 2.45Leverage 0.316 0.298 0.018** 2.38Cash 0.073 0.072 0.001 0.15Cash Flow 0.041 0.036 0.005** 2.00Z-score 0.625 0.683 -0.058 -1.19Sales 6.421 6.011 0.410*** 8.08Profit -0.037 -0.262 0.225 0.47Investment 0.260 0.283 -0.023** -2.55

Pre-Crisis Average Sample Characteristics of Firms withSingle and Multiple Lending Relationships

Single Multiple Difference t-statisticFirm’s Size 5.906 7.671 -1.765*** -20.19Collateral 0.410 0.454 -0.044** -3.06Tangibility 0.304 0.360 -0.056*** -3.81Market-to-Book 1.599 1.525 0.074 1.14ROA 0.001 0.012 -0.011*** -7.22Leverage 0.286 0.313 -0.028 -1.76Cash 0.127 0.071 0.056*** 9.26Cash Flow 0.014 0.039 -0.025*** -3.63Z-score 0.108 0.720 -0.612*** -5.11Sales 4.555 6.168 -1.613*** -18.76Profit 0.014 0.027 -0.013*** -7.09Net Debt Issuance 0.080 0.059 0.022 1.48Net Equity Issuance 0.062 0.000 0.062*** 4.22Investment 0.405 0.269 0.136*** 7.23

1. Effect of the shock to bank’s liquidity on bank lending

(1) (2) (3)OLS FE FE

∆Lending ∆Lending ∆LendingCore Deposits (t-1) 0.298** 0.200** 0.263***Liquid Assets (t-1) -0.362* -0.201 -0.137Bank Size (t-1) 0.960 0.773 -0.151Capital Ratio (t-1) 0.367* 0.248* 0.172ROA (t-1) 5.580** 3.539** 1.875NPL (t-1) -1.930 -0.636 0.042Relationship -2.548*** -1.531*** -1.470***Inverse Mill’s Ratio 128.9***Firm FE, multiple firms No Yes YesLocation and industry dummies Yes No NoN 7,069 6,084 2,741

3,354 x 110 2,222 x 80 877 x 60R2 0.146 0.725 0.641

• Banks with core deposits 1 SD above the mean ↓ lending by 5 p.p.while banks with core deposits 1 SD below the mean ↓ lending by10 p.p.

Robustness Checks1. Effect of the shock to bank’s liquidity on bank lending

(1) (2) (3) (4) (5)FE FE FE FE FE

∆Lending ∆Lending ∆Lending ∆Lending ∆LendingCore Deposits (t-1) 26.28*** 26.38*** 28.86*** 28.69*** 25.75***Liquid Assets (t-1) -13.70 -14.38 -8.339 -9.409 -13.49

Size (t-1) -0.151 -0.365 -0.124 -0.297 -0.128

Capital Ratio (t-1) 17.24 12.92 18.29 14.74 17.26

ROA (t-1) 187.5 184.3 176.7 175.3 183.8

NPL (t-1) 4.229 -11.62 -39.49 -47.84 0.132

Relationship -1.470*** -1.440*** -1.467*** -1.444*** -1.246**Inverse Mill’s Ratio 128.9*** 128.6*** 128.9*** 128.7*** 127.3***C&I Loans (t-1) -6.890 -5.494RE Loans (t-1) 6.586 5.939Relationship Amount -3.271**N 2,741 2,741 2,741 2,741 2,741R2 0.641 0.641 0.642 0.642 0.641

Results2(a). Effect of the shock to bank’s liquidity on firm’s financialoutcomes4Yj(t) = α1 + α2Liq.Exposurej(t − 1) + α3Firms ′ Controlsj(t − 1) + ej

(1) (2) (3) (4) (5)∆Total ∆Long-Term ∆Net Debt ∆Net Equity ∆CashDebt Debt Issuance Issuance

Core Deposits 0.299 0.328** 0.168 0.299 -0.0645

Industry andYes Yes Yes Yes Yes

State DummiesFirm Controls Yes Yes Yes Yes Yes

N 933 933 883 883 934R2 0.179 0.231 0.217 0.281 0.324

• 1% ↓ in average core deposits ↓ firm’s long-term debt by 0.33%

Results2(a). Effect of the shock to bank’s liquidity on firm’s realoutcomes4Yj(t) = α1 + α2Liq.Exposurej(t − 1) + α3Firms ′ Controlsj(t − 1) + ej

(1) (2) (3)∆Investment ∆Profit ∆Log

Employment

Core Deposits -0.107 0.0404*** 19.5

Industry and State Dummies Yes Yes YesFirm Controls Yes Yes Yes

N 877 930 903R2 0.280 0.340 0.295

• 1% ↓ in average core deposits ↓ firm’s profit by 0.04%• 1 SD ↑ in average core deposits ↓ firm’s profit by 0.3 p.p., or 43%

of average change in profit

2(b). Effect of change in bank lending on firm’s outcomes

4Yj(t) = γ14 ˜Lendingj(t) + γ24Firms ′ Controlsj(t) +4ej(t)

(1) (2) (3) (4) (5) (6) (7)

∆Total ∆Net Debt ∆Net Equity ∆Cash ∆Invest- ∆Profit ∆Log

Debt Issuance Issuance ment Employment

4 ˜Lending 0.0369* 0.128*** -0.0685*** -0.0866*** 0.114** 0.0142*** 0.00273***

4FirmYes Yes Yes Yes Yes Yes Yes

Controls

N 1064 1011 1011 1064 1007 1064 1036

R2 0.973 0.103 0.073 0.221 0.256 0.910 0.468

• 1% ↓ in lending ↓ firm’s net debt issuance by 0.13%• 1% ↓ in lending ↓ firm’s investment by 0.11%

Conclusion

• Adverse shocks to bank liquidity trigger decline in bank lending• Banks financed mainly with core deposits have lower decline inlending

• Bank health is positively related to firm’s long-term debt andfirm’s profit

• Decline in bank lending reduces firm’s total debt, net debtissuance, investment, profit and employment and increasesfirm’s cash holdings and net equity issuance