On the Profitability and Cost of Relationship Lending

97-43

34 Pages Posted: 13 Jan 1998

See all articles by Mitchell Berlin

Mitchell Berlin

Federal Reserve Bank of Philadelphia - Research Department

Loretta J. Mester

Federal Reserve Banks - Federal Reserve Bank of Cleveland; University of Pennsylvania - The Wharton School

Date Written: July 1997

Abstract

We provide evidence on the costs and profitability of relationship lending by banks. We derive bank-specific measures of loan rate smoothing for small business borrowers in response to exogenous shocks to their credit risk and to interest rates, and then estimate cost and profit functions to examine how smoothing affects bank costs and profits. Our results suggests that, in general, loan rate smoothing in response to a credit risk shock is not part of an optimal long-term contract between a bank and its borrower, while loan rate smoothing in response to an interest rate shock is.

JEL Classification: G21, G30, L14

Suggested Citation

Berlin, Mitchell and Mester, Loretta J., On the Profitability and Cost of Relationship Lending (July 1997). 97-43. Available at SSRN: https://ssrn.com/abstract=52077 or http://dx.doi.org/10.2139/ssrn.52077

Mitchell Berlin

Federal Reserve Bank of Philadelphia - Research Department ( email )

Ten Independence Mall
Philadelphia, PA 19106-1574
215-574-3822 (Phone)
215-574-4364 (Fax)

Loretta J. Mester (Contact Author)

Federal Reserve Banks - Federal Reserve Bank of Cleveland ( email )

East 6th & Superior
Cleveland, OH 44101-1387
United States

University of Pennsylvania - The Wharton School

3641 Locust Walk
Philadelphia, PA 19104-6365
United States

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