How Does Financial Reporting Regulation Affect Firms’ Banking?

Abstract

We examine the effects of financial reporting regulation on firms’ banking. Exploiting discontinuous public disclosure and auditing requirements assigned to otherwise similar small and medium-sized private firms, we document that financial reporting regulation reduces firms’ reliance on concentrated and local bank relationships and increases banks’ reliance on firms’ financial reporting, consistent with a shift in firms’ banking from relationship toward transactional approaches. Our evidence suggests that financial reporting regulation substitutes for banks’ information production role by burdening firms with the disclosure and auditing of their financial statements, consistent with institutional complementarities between reporting and banking systems.

Keywords: financial intermediation, financial reporting, public disclosure, auditing, competition

JEL Classification: M41, M48, G38