Lines of Credit, Two-Player External Liquidity
54 Pages Posted:
Date Written: February 19, 2021
We propose a two-player game under the pecking order framework to model credit line realization. A firm and a bank make sequential decisions, and each has two choices. Firms with sufficient internal liquidity won’t apply in the first place. Banks selectively reject submitted applications on concerns that borrowers can’t service drawdown interest rate payments or principal repayment. The empirical analysis investigates both normal times and a crisis period. In normal times, credit line contracts add liquidity capacity when the cash holdings may be insufficient to address unexpected cash flow shocks. In the 2008 crisis, drawdowns confirm an independent demand-side story.
Keywords: total liquidity management, cash holdings, cash flows, lines of credit, demand-side shock
JEL Classification: G21, G30
Suggested Citation: Suggested Citation