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Bank Capital, Borrower Power, and Loan Rates

João A. C. Santos

Federal Reserve Bank of New York

Andrew Winton

University of Minnesota - Twin Cities - Carlson School of Management

May 6, 2013

EFA 2009 Bergen Meetings Paper
AFA 2010 Atlanta Meetings Paper

We test the predictions of several recent theories of how bank capital affects the rates that banks charge their borrowers. Consistent with previous studies, higher bank capital has a negative impact on loan rates, and this effect is focused on bank-dependent borrowers. Further investigation shows that borrower cash flow is a critical determinant of this relationship: compared to high-capital banks, low-capital banks charge more for bank-dependent borrowers with low cash flow, but offer greater discounts for bank-dependent borrowers with high cash flow. Our results support the bank-fragility theory, which argues that low bank capital generally toughens bank bargaining power, especially vis-a-vis low-cash-flow borrowers, but weakens bank bargaining power vis-a-vis high-cash-flow borrowers. By contrast, our results are not consistent with models where low-capital banks either consume reputational capital or are generally more risk averse than high-capital banks.

Number of Pages in PDF File: 49

Keywords: Bank loans, bank capital, loan spreads, cash flow, hold-up, information monopolies

JEL Classification: E51, G21, G32

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Date posted: February 18, 2009 ; Last revised: February 1, 2014

Suggested Citation

Santos, João A. C. and Winton, Andrew, Bank Capital, Borrower Power, and Loan Rates (May 6, 2013). EFA 2009 Bergen Meetings Paper; AFA 2010 Atlanta Meetings Paper. Available at SSRN: http://ssrn.com/abstract=1343897 or http://dx.doi.org/10.2139/ssrn.1343897

Contact Information

João A. C. Santos (Contact Author)
Federal Reserve Bank of New York ( email )
33 Liberty Street
New York, NY 10045
United States
212-720-5583 (Phone)
212-720-8363 (Fax)
Andrew Winton
University of Minnesota - Twin Cities - Carlson School of Management ( email )
321 19th Avenue South
Department of Finance
Minneapolis, MN 55455
United States
612-624-0589 (Phone)
612-626-1335 (Fax)
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