Bank Lending During the Financial Crisis of 2008
TL;DR: This article showed that new loans to large borrowers fell by 47% during the peak period of the financial crisis (fourth quarter of 2008) relative to the prior quarter and by 79% relative to peak of the credit boom (second quarter of 2007).
Abstract: This paper documents that new loans to large borrowers fell by 47% during the peak period of the financial crisis (fourth quarter of 2008) relative to the prior quarter and by 79% relative to the peak of the credit boom (second quarter of 2007). New lending for real investment (such as working capital and capital expenditures) fell by only 14% in the last quarter of 2008, but contracted nearly as much as new lending for restructuring (LBOs, M&A, share repurchases) relative to the peak of the credit boom. After the failure of Lehman Brothers in September 2008 there was a run by short-term bank creditors, making it difficult for banks to roll over their short-term debt. We document that there was a simultaneous run by borrowers who drew down their credit lines, leading to a spike in commercial and industrial loans reported on bank balance sheets. We examine whether these two stresses on bank liquidity led them to cut lending. In particular, we show that banks cut their lending less if they had better access to deposit financing and thus they were not as reliant on short-term debt. We also show that banks that were more vulnerable to credit line drawdowns because they co-syndicated more of their credit lines with Lehman Brothers reduced their lending to a greater extent.
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TL;DR: The authors summarizes and explains the main events of the liquidity and credit crunch in 2007-08, starting with the trends leading up to the crisis and explaining how four different amplification mechanisms magnified losses in the mortgage market into large dislocations and turmoil in financial markets.
Abstract: This paper summarizes and explains the main events of the liquidity and credit crunch in 2007-08. Starting with the trends leading up to the crisis, I explain how these events unfolded and how four different amplification mechanisms magnified losses in the mortgage market into large dislocations and turmoil in financial markets.
3,033 citations
TL;DR: This paper found that firms with high social capital, measured as corporate social responsibility (CSR) intensity, had stock returns that were four to seven percentage points higher than firms with low social capital during the 2008-2009 financial crisis.
Abstract: During the 2008-2009 financial crisis, firms with high social capital, measured as corporate social responsibility (CSR) intensity, had stock returns that were four to seven percentage points higher than firms with low social capital. High-CSR firms also experienced higher profitability, growth, and sales per employee relative to low-CSR firms, and they raised more debt. This evidence suggests that the trust between the firm and both its stakeholders and investors, built through investments in social capital, pays off when the overall level of trust in corporations and markets suffers a negative shock.
1,467 citations
TL;DR: The authors survey 1,050 CFOs in the US, Europe, and Asia to assess whether their firms are credit constrained during the global financial crisis of 2008 and find that constrained firms planned deeper cuts in tech spending, employment, and capital spending.
Abstract: We survey 1,050 CFOs in the US, Europe, and Asia to directly assess whether their firms are credit constrained during the global financial crisis of 2008 We study whether corporate spending plans differ conditional on this survey-based measure of financial constraint Our evidence indicates that constrained firms planned deeper cuts in tech spending, employment, and capital spending Constrained firms also burned through more cash, drew more heavily on lines of credit for fear banks would restrict access in the future, and sold more assets to fund their operations We also find that the inability to borrow externally caused many firms to bypass attractive investment opportunities, with 86% of constrained US CFOs saying their investment in attractive projects was restricted during the credit crisis of 2008 More than half of the respondents said they canceled or postponed their planned investments Our results also hold in Europe and Asia, and in many cases are stronger in those economies Our analysis adds to the portfolio of approaches and knowledge about the impact of credit constraints on real firm behavior
1,467 citations
TL;DR: In this paper, the authors investigated the effect of bank lending frictions on employment outcomes and found that credit matters, and that withdrawal of credit accounts for between one-third and one-half of the employment decline at small and medium firms in the sample in the year 2007.
Abstract: This article investigates the effect of bank lending frictions on employment outcomes. I construct a new data set that combines information on banking relationships and employment at 2,000 nonfinancial firms during the 2008–9 crisis. The article first verifies empirically the importance of banking relationships, which imply a cost to borrowers who switch lenders. I then use the dispersion in lender health following the Lehman crisis as a source of exogenous variation in the availability of credit to borrowers. I find that credit matters. Firms that had precrisis relationships with less healthy lenders had a lower likelihood of obtaining a loan following the Lehman bankruptcy, paid a higher interest rate if they did borrow, and reduced employment by more compared to precrisis clients of healthier lenders. Consistent with frictions deriving from asymmetric information, the effects vary by firm type. Lender health has an economically and statistically significant effect on employment at small and medium firms, but the data cannot reject the hypothesis of no effect at the largest or most transparent firms. Abstracting from general equilibrium effects, I find that the withdrawal of credit accounts for between one-third and one-half of the employment decline at small and medium firms in the sample in the year
1,056 citations
Cites background or result from "Bank Lending During the Financial C..."
...…loan D ow nloaded from https://academ ic.oup.com /qje/article/129/1/1/1899226 by guest on 05 D ecem ber 2021 The first proposed instrument follows Ivashina and Scharfstein (2010) in constructing exposure to Lehman Brothers through the fraction of a bank’s syndication portfolio where Lehman…...
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...Instead, the literature has highlighted exposure to specific failing institutions (Ivashina and Scharfstein 2010), exposure to the real estate market and toxic assets (Santos 2011; Erel, Nadauld, and Stulz 2011), and liability structure (Ivashina and Scharfstein 2010; Fahlenbrach, Prilmeier, and…...
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...Column (1) replicates the finding in Ivashina and Scharfstein (2010) that banks that had participated in a higher fraction of syndicates where Lehman had a lead lending role reduced new lending by more....
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...…exposure to specific failing institutions (Ivashina and Scharfstein 2010), exposure to the real estate market and toxic assets (Santos 2011; Erel, Nadauld, and Stulz 2011), and liability structure (Ivashina and Scharfstein 2010; Fahlenbrach, Prilmeier, and Stulz 2012; Gorton and Metrick 2012)....
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...Papers that use variation generated by the 2007–9 crisis include Ivashina and Scharfstein (2010), Albertazzi and Marchetti (2011), Santos (2011), Aiyar (2012), De Haas and Van Horen (2012), and Almeida et al. (2012)....
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TL;DR: This article study the effect of the recent financial crisis on corporate investment and find that firms that have low cash reserves or high net short-term debt, are financially constrained, or operate in industries dependent on external finance are less likely to invest.
Abstract: We study the effect of the recent financial crisis on corporate investment. The crisis represents an unexplored negative shock to the supply of external finance for non-financial firms. Corporate investment declines significantly following the onset of the crisis, controlling for firm fixed effects and time-varying measures of investment opportunities. Consistent with a causal effect of a supply shock, the decline is greatest for firms that have low cash reserves or high net short-term debt, are financially constrained, or operate in industries dependent on external finance. To address endogeneity concerns, we measure firms’ financial positions as much as four years prior to the crisis, and confirm that similar results do not follow placebo crises in the summers of 2003–2006. Nor do similar results follow the negative demand shock caused by September 11, 2001. The effects weaken considerably beginning in the third quarter of 2008, when the demand-side effects of the crisis became apparent. Additional analysis suggests an important precautionary savings motive for seemingly excess cash that is generally overlooked in the literature.
1,028 citations
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TL;DR: The authors showed that bank deposit contracts can provide allocations superior to those of exchange markets, offering an explanation of how banks subject to runs can attract deposits, and showed that there are circumstances when government provision of deposit insurance can produce superior contracts.
Abstract: This paper shows that bank deposit contracts can provide allocations superior to those of exchange markets, offering an explanation of how banks subject to runs can attract deposits. Investors face privately observed risks which lead to a demand for liquidity. Traditional demand deposit contracts which provide liquidity have multiple equilibria, one of which is a bank run. Bank runs in the model cause real economic damage, rather than simply reflecting other problems. Contracts which can prevent runs are studied, and the analysis shows that there are circumstances when government provision of deposit insurance can produce superior contracts.
9,099 citations
"Bank Lending During the Financial C..." refers background in this paper
...K, October 30, 2008. a bank as in Diamond and Dybvig (1983)....
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...a bank as in Diamond and Dybvig (1983). Overall, it is estimated that at the moment of the bankruptcy filing, Lehman had $30 billion of undrawn revolving commitments....
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TL;DR: The authors summarizes and explains the main events of the liquidity and credit crunch in 2007-08, starting with the trends leading up to the crisis and explaining how four different amplification mechanisms magnified losses in the mortgage market into large dislocations and turmoil in financial markets.
Abstract: This paper summarizes and explains the main events of the liquidity and credit crunch in 2007-08. Starting with the trends leading up to the crisis, I explain how these events unfolded and how four different amplification mechanisms magnified losses in the mortgage market into large dislocations and turmoil in financial markets.
3,033 citations
"Bank Lending During the Financial C..." refers background in this paper
...…and solvency of the banking sector.2 Unsecured commercial paper holders refused to roll over their debt, while repo lenders and trading counterparties required more collateral to back their loans and trades, all of which drained liquidity from the system (Brunnermeier, 2009; Gorton, 2009)....
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...Unsecured commercial paper holders refused to roll over their debt, while repo lenders and trading counterparties required more collateral to back their loans and trades, all of which drained liquidity from the system (Brunnermeier, 2009; Gorton, 2009)....
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...As noted in the introduction, banks had a difficult time rolling over their short-term debt (including repos) because of concerns about the solvency and liquidity of the banking system (Brunnermeier, 2009; Gorton, 2009)....
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TL;DR: The financial market turmoil in 2007 and 2008 has led to the most severe financial crisis since the Great Depression and threatens to have large repercussions on the real economy as mentioned in this paper The bursting of the housing bubble forced banks to write down several hundred billion dollars in bad loans caused by mortgage delinquencies at the same time the stock market capitalization of the major banks declined by more than twice as much.
Abstract: The financial market turmoil in 2007 and 2008 has led to the most severe financial crisis since the Great Depression and threatens to have large repercussions on the real economy The bursting of the housing bubble forced banks to write down several hundred billion dollars in bad loans caused by mortgage delinquencies At the same time, the stock market capitalization of the major banks declined by more than twice as much While the overall mortgage losses are large on an absolute scale, they are still relatively modest compared to the $8 trillion of US stock market wealth lost between October 2007, when the stock market reached an all-time high, and October 2008 This paper attempts to explain the economic mechanisms that caused losses in the mortgage market to amplify into such large dislocations and turmoil in the financial markets, and describes common economic threads that explain the plethora of market declines, liquidity dry-ups, defaults, and bailouts that occurred after the crisis broke in summer 2007 To understand these threads, it is useful to recall some key factors leading up to the housing bubble The US economy was experiencing a low interest rate environment, both because of large capital inflows from abroad, especially from Asian countries, and because the Federal Reserve had adopted a lax interest rate policy Asian countries bought US securities both to peg the exchange rates at an export-friendly level and to hedge against a depreciation of their own currencies against the dollar, a lesson learned from the Southeast Asian crisis of the late 1990s The Federal Reserve Bank feared a deflationary period after the bursting of the Internet bubble and thus did not counteract the buildup of the housing bubble At the same time, the banking system underwent an important transformation The
2,434 citations
TL;DR: In this paper, the authors interpret the financial accelerator as resulting from endogenous changes over the business cycle in the agency costs of lending, and show that borrowers facing high agency costs should receive a relatively lower share of credit extended (the flight to quality) and hence should account for a proportionally greater part of the decline in economic activity.
Abstract: Adverse shocks to the economy may be amplified by worsening credit-market conditions-- the financial 'accelerator'. Theoretically, we interpret the financial accelerator as resulting from endogenous changes over the business cycle in the agency costs of lending. An implication of the theory is that, at the onset of a recession, borrowers facing high agency costs should receive a relatively lower share of credit extended (the flight to quality) and hence should account for a proportionally greater part of the decline in economic activity. We review the evidence for these predictions and present new evidence drawn from a panel of large and small manufacturing firms.
1,887 citations
TL;DR: In this article, the authors argue that since banks often lend via commitments, their lending and deposit-taking may be two manifestations of one primitive function: the provision of liquidity on demand.
Abstract: What ties together the traditional commercial banking activities of deposittaking and lending? We argue that since banks often lend via commitments, their lending and deposit-taking may be two manifestations of one primitive function: the provision of liquidity on demand. There will be synergies between the two activities to the extent that both require banks to hold large balances of liquid assets: If deposit withdrawals and commitment takedowns are imperfectly correlated, the two activities can share the costs of the liquid-asset stockpile. We develop this idea with a simple model, and use a variety of data to test the model empirically. WHAT ARE THE DEF INING CHARACTERISTICS of a bank? Both the legal definition in the United States and the standard answer from economists is that commercial banks are institutions that engage in two distinct types of activities, one on each side of the balance sheet—deposit-taking and lending. More precisely, deposit-taking involves issuing claims that are riskless and demandable, that is, claims that can be redeemed for a fixed value at any time. Lending involves acquiring costly information about opaque borrowers, and extending credit based on this information. A great deal of theoretical and empirical analysis has been devoted to understanding the circumstances under which each of these two activities might require the services of an intermediary, as opposed to being implemented in arm’s-length securities markets. While much has been learned from this work, with few exceptions it has not addressed a fundamental question: why is it important that one institution carry out both functions
1,252 citations
"Bank Lending During the Financial C..." refers background or methods in this paper
...Kashyap, Rajan, and Stein (2002) argue that we should observe such a relationship because it is efficient for financial institutions to hold liquid assets to meet the uncertain liquidity needs of depositors and borrowers, as long as those liquidity needs are imperfectly correlated....
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...This has been shown in the theoretical and empirical work of Kashyap, Rajan, and Stein (2002) and Gatev and Strahan (2006)....
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