Soft Information in Small Business Lending

Abstract:     
I empirically examine whether banks incorporate information about small firms' previous credit repayment patterns into their credit decisions. I provide evidence consistent with transaction banks being unwilling to lend to firms that have been delinquent in their credit obligations. In contrast, relationship banks use private information accumulated throughout their extended interactions with firms, and disregard the firms' credit repayment patterns. By interacting different types of information, I further identify that the soft component of private information gathered by banks is an important determinant of the bank lending decisions. The results are robust to the endogenous determination of granting the loans and the firm's credit history, and to the endogenous decision of firms in applying for a loan or not.

Keywords: Banking, credit history, small business finance, soft information

JEL Classifications: G21, G32

Working Paper Series