Bank Entry, New Loans, And Misallocation

Nirvana Mitra and Pavel Chakraborty
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Pavel Chakraborty: Lancaster University

Working Papers from Centre for Advanced Financial Research and Learning (CAFRAL)

Abstract: ow do banking reforms affect the real economy? By utilizing a unique policy change regarding the entry of new domestic private and foreign banks in India, we examine its effect on manufacturing firms’ credit received, performance, and misallocation using unique firm-bank matched data. We find robust evidence of cherry-picking: entry of new banks resulted in higher loans, but only for the big firms by 4.8–10%. More credit resulted in firm size expansion and improvements in physical or within-firm productivity with no change in allocative efficiency or between-firm allocation of resources, keeping them at least as constrained as before. Lastly, our counterfactual exercises show that entry of the new banks accounted for at least a 5–7% gain in overall manufacturing output. Our findings suggest that unilateral policy change can limit the effect if other reforms, such as incentives for banks to extend loans to small firms in our case, are not simultaneously undertaken.

Keywords: Banking Reforms; Domestic Private and/or Foreign Banks; Big Firms; Cherry Picking; Misallocation; Physical Productivity (search for similar items in EconPapers)
JEL-codes: G1 G21 L25 O47 (search for similar items in EconPapers)
Pages: 57
Date: 2024-08
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Persistent link: https://EconPapers.repec.org/RePEc:ris:cafral:022272

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