Banking Relationships and Creditor Rights

Vidhan Goyal, S. Lakshmi Naaraayanan () and Anand Srinivasan
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S. Lakshmi Naaraayanan: The Hong Kong University of Science and Technology, Clear Water Bay, Kowloon, Hong Kong
Anand Srinivasan: Centre for Advanced Financial Research and Learning, (Promoted by the Reserve Bank of India), Mezzanine Floor, Main Building, Reserve Bank of India, Shahid Bhagat Singh Road, Fort, Mumbai 400001, Maharashtra, India3NUS Business School, National University of Singapore, 15 Kent Ridge Drive, Singapore City 119245, Singapore

Quarterly Journal of Finance (QJF), 2019, vol. 09, issue 04, 1-29

Abstract: Do the legal rights of creditors influence whether the firms borrow from arm’s length or relationship lenders in a country? We examine this question by exploiting the staggered adoption of legal reforms that changed creditor rights. We find that as creditor rights strengthen, firms exhibit a greater propensity to switch to relationship lenders. Conversely, firms switch to arm’s length lenders as creditor rights weaken. These results are consistent with the view that arm’s length creditors have a bias toward excessive liquidation in environments with strong creditor rights. Hence as creditor rights strengthen, firms switch to relationship lenders as they are less likely to sub-optimally liquidate the firm when continuation is more efficient.

Keywords: Banking relationships; creditor rights; liquidation bias; arm’s length creditors (search for similar items in EconPapers)
Date: 2019
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DOI: 10.1142/S2010139219500162

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