Bank Capital Regulation, Loan Contracts, and Corporate Investment
Posted: 10 Nov 2013 Last revised: 9 May 2014
Date Written: October 5, 2013
This paper studies the link between bank capital regulation, bank loan contracts and the allocation of corporate resources across firms' different business lines. Credit risk is lower when firms write contracts that oblige them to invest mainly into projects with highly tangible assets. We argue that firms have an incentive to choose a contract with overly safe and thus inefficient investments when intermediation costs are increasing in banks' capital-to-asset ratio. Imposing minimum capital adequacy for banks can eliminate this incentive by putting a lower bound on financing costs.
Keywords: Financial contracting, Corporate investment, Asset tangibility, Bank capital regulation
JEL Classification: G21, G28, G31
Suggested Citation: Suggested Citation