Political Connections and the Cost of Bank Loans

Posted: 28 Mar 2014

See all articles by Joel F. Houston

Joel F. Houston

University of Florida - Department of Finance, Insurance and Real Estate

Liangliang Jiang

Hong Kong Polytechnic University

Chen Lin

The University of Hong Kong - Faculty of Business and Economics

Yue Ma

City University of Hong Kong (CityUHK) - Department of Economics & Finance

Date Written: March 1, 2014

Abstract

This paper analyzes whether the political connections of listed firms in the United States affect the cost and terms of loan contracts. Using a hand-collected data set of the political connections of S&P 500 companies over the 2003-2008 time period, we find that the cost of bank loans is significantly lower for companies that have board members with political ties. We consider two possible explanations for these findings: a Borrower Channel in which lenders charge lower rates because they recognize that connections enhance the borrower's credit worthiness and a Bank Channel in which banks assign greater value to connected loans to enhance their own relationships with key politicians. After employing a series of tests to distinguish between these two channels, we find strong support for the Borrower Channel but no direct evidence supporting the Bank Channel. Finally, we demonstrate that political connections reduce the likelihood of a capital expenditure restriction or liquidity requirement commanded by banks at the origination of the loan. Taken together, our results suggest that political connections increase the value of U.S. companies and reduce monitoring costs and credit risk faced by banks, which, in turn, reduces the borrower's cost of debt.

Keywords: Political connection, cost of debt, loan contracting

JEL Classification: G21, G34, G38

Suggested Citation

Houston, Joel F. and Jiang, Liangliang and Lin, Chen and Ma, Yue, Political Connections and the Cost of Bank Loans (March 1, 2014). Journal of Accounting Research, Vol. 52, No. 1, 2014. Available at SSRN: https://ssrn.com/abstract=2404477

Joel F. Houston (Contact Author)

University of Florida - Department of Finance, Insurance and Real Estate ( email )

P.O. Box 117168
Gainesville, FL 32611
United States

Liangliang Jiang

Hong Kong Polytechnic University ( email )

11 Yuk Choi Rd
Hung Hom
Hong Kong

Chen Lin

The University of Hong Kong - Faculty of Business and Economics ( email )

Pokfulam Road
Hong Kong
China

Yue Ma

City University of Hong Kong (CityUHK) - Department of Economics & Finance ( email )

83 Tat Chee Avenue
Kowloon
Hong Kong

HOME PAGE: http://www.cb.cityu.edu.hk/staff/yuema24

Register to save articles to
your library

Register

Paper statistics

Abstract Views
1,069
PlumX Metrics