Do Credit Market Conditions Affect Firms’ Post-hedging Outcomes? Evidence from Bank Credit Standards and Firms’ Currency Exposure

Abstract

Bank credit constraints can reduce firms’ ability to borrow to fund hedging and counterparties’ capacity to provide hedging services, thus affecting post-hedging outcomes. We find that a one-standard-deviation tighter credit standards increases (post-hedging) exchange rate exposure by 10%. This increase is persistent over time, pervasive across firm types, and robust to various measures of exposure and addressing endogeneity. We present direct evidence that the above link is due to suboptimal hedging primarily due to the “capacity channel.” Our results document a link between credit and currency markets and have implications for hedging policy and the bank-credit-rationing channel of monetary policy.

Keywords: financial constraints, credit constraints, credit standards, bank-credit channel, credit rationing, bank loan supply, exchange rate exposure, currency hedging

JEL Classification: F31; G30; G39