Abstract: This paper examines the effect of contract enforceability on the extent to which loans are relationship based. We test two alternative views of relationship lending - one in which relationship lending overcomes contracting frictions and the other in which relationship lending allows lenders to extract monopoly rents. The two views yield opposite predictions on how legal rights and protection of property rights in a country will affect the prevalence of relationship loans and the effect such loans will have on loan contract terms and structure of loan syndicates. We examine these two views in the paper using a large sample of loans across a large cross-section of countries that differ in legal rights and contract enforceability. Our evidence is more consistent with relationships hurting borrowers in countries with weak legal protection because of information monopolies that relationships create. Relationship lending is more common in countries with strong enforcement of the rights of lenders. We also provide evidence that relationships complement enforcement by positively affecting size of loans to borrowers and by reducing maturities in countries with stronger enforcement. We also find that relationships also complement property rights in reducing syndicate moral hazard and results in larger syndicates and with lead lenders retaining a smaller fraction of the loan for themselves. Overall, our findings are consistent with weak enforcement resulting in greater hold-up problems associated with relationship lending.
Publication Year: 2016
Publication Date: 2016-01-01
Language: en
Type: article
Access and Citation
AI Researcher Chatbot
Get quick answers to your questions about the article from our AI researcher chatbot