Bank Funding Risk, Reference Rates, and Credit Supply

Journal of Finance forthcoming

81 Pages Posted: 31 Dec 2022 Last revised: 16 May 2024

See all articles by Harry Cooperman

Harry Cooperman

Stanford University Graduate School of Business

Darrell Duffie

Stanford University - Graduate School of Business; National Bureau of Economic Research (NBER); Canadian Derivatives Institute

Stephan Luck

Federal Reserve Bank of New York

Zachry Wang

Stanford Graduate School of Business

Yilin (David) Yang

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

Multiple version iconThere are 2 versions of this paper

Date Written: December 15, 2022

Abstract

Corporate credit lines are drawn more heavily when funding markets are more stressed. This covariance elevates expected bank funding costs. We show that credit supply is inefficiently dampened by the associated debt-overhang cost to bank shareholders. Until 2022, this impact was reduced by linking the interest paid on lines to credit-sensitive reference rates such as LIBOR. We show that transition to risk-free reference rates may exacerbate this friction. The adverse impact on credit supply is offset to the extent that drawdowns are expected to be left on deposit at the same bank, which happened at the largest banks during the COVID shock.

Keywords: Bank funding risk, credit supply, reference rates, credit lines, London Interbank Offered Rate (LIBOR), Secured Overnight Financing Rate (SOFR)

JEL Classification: G00, G01, G02, G20, G21, E4, E43

Suggested Citation

Cooperman, Harry and Duffie, James Darrell and Luck, Stephan and Wang, Zachry and Yang, Yilin (David), Bank Funding Risk, Reference Rates, and Credit Supply (December 15, 2022). Journal of Finance forthcoming, Available at SSRN: https://ssrn.com/abstract=4303541 or http://dx.doi.org/10.2139/ssrn.4303541

Harry Cooperman

Stanford University Graduate School of Business ( email )

Stanford, CA
United States

James Darrell Duffie

Stanford University - Graduate School of Business ( email )

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National Bureau of Economic Research (NBER)

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Canadian Derivatives Institute ( email )

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Stephan Luck (Contact Author)

Federal Reserve Bank of New York ( email )

33 Liberty Street
New York, NY 10045
United States

Zachry Wang

Stanford Graduate School of Business ( email )

655 Knight Way
Stanford, 94305
United States

Yilin (David) Yang

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

83 Tat Chee Avenue
Kowloon
Hong Kong

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