The empirical relation between loan risk and collateral in the shadow banking system: Evidence from China’s entrusted loan market

Sheng Fang, Xuesong Qian and Wei Zou

International Review of Economics & Finance, 2020, vol. 67, issue C, 42-54

Abstract: Based on evidence from China’s entrusted loan market (2004–2014), we examine the effect of collateral in the shadow banking system. We find that collateral generally accompanies higher loan risk premiums and a higher probability of ex-post loan nonperformance (i.e., loan extension). Furthermore, the evidence shows that the types of collateral pledges, borrower heterogeneity and equity ties make a difference in the channel by which collateral works. Our findings suggest that in entrusted loan shadow banking, the lenders likely require collateral from observably riskier borrowers (unlisted or non-affiliated borrowers) to control ex-post contract conflict, and the lender selection effect is particularly strong for outside collateral. The paper sheds light on risk management in the shadow banking system and offers a possible explanation for the conflicting empirics concerning the relation of loan risk and collateral.

Keywords: Collateral; Loan risk; Entrusted loan; Shadow banking; Risk premium; Loan extension (search for similar items in EconPapers)
JEL-codes: D82 G21 G38 (search for similar items in EconPapers)
Date: 2020
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Citations: View citations in EconPapers (7)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:reveco:v:67:y:2020:i:c:p:42-54

DOI: 10.1016/j.iref.2019.12.012

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