On the Profitability and Cost of Relationship Lending

Mitchell Berlin () and Loretta J. Mester

Center for Financial Institutions Working Papers from Wharton School Center for Financial Institutions, University of Pennsylvania

Abstract: We provide evidence on the costs and profitability of relationship lending by banks. We derive bank-specific measures of loan rate smoothing for small business borrowers in response to exogenous shocks to their credit risk and to interest rates, and then estimate cost and profit functions to examine how smoothing affects bank costs and profits.

Our results suggests that, in general, loan rate smoothing in response to a credit risk shock is not part of an optimal long-term contract between a bank and its borrower, while loan rate smoothing in response to an interest rate shock is.

Keywords: Bank; Lending; Small Business; Profit; Cost (search for similar items in EconPapers)
JEL-codes: G21 G30 L14 (search for similar items in EconPapers)
Date: 1997-07
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Related works:
Working Paper: On the profitability and cost of relationship lending (1997)
Journal Article: On the profitability and cost of relationship lending (1998)
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Persistent link: http://EconPapers.repec.org/RePEc:wop:pennin:97-43

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