Political Quid Pro Quo In Financial Markets

Abstract

Formally independent private banks engage in an exchange of favor with local politicians to gain access to politically-controlled rents. Using French credit registry for 2007-2017, we find that banks grant favors to local politicians by increasing credit granted to the private sector by 9%-14% the year a powerful incumbent faces a contested election. As politicians return the favor, banks that grant more credit to private firms in election years gain market share in the profitable market for loans to local public entities after the election, when the incumbent is reelected. Thus, when politicians control the allocation of rents, formal independence does not ensure the private sector's effective independence from politically motivated distortions.

Keywords: Politics and Banking, Moral Suasion, Local Government Financing

JEL Classification: G21, G30, H74, H81