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Does Berger and Udell (1998) financial life-cycle theory hold for loan interest rates?
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DOI：10.1007/s11187-026-01260-1.png)
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Abstract
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Financial life-cycle theory outlines how the firm size-age continuum shapes the financing choices of firms in terms of the sources of finance available to them and is rooted in information-based problems that impact with greater severity on smaller and younger firms. Logically, it follows that these features should also be present in banks’ loan interest rate setting processes and result in higher loan interest rate offers to smaller and younger firms. Most studies have explored size and age effects independently, and this has rarely been explored simultaneously. In this study, we consider how the interaction of firm size and age from micro new firms to large well-established firms impacts on loan interest rates. Using a large loan contract dataset for the UK, we find that the estimated average interest rate difference at the extremes is 5.43%, but that new firms of any size class tend to receive lower interest rate offers than early-stage firms of the same size class. We conclude that the financial life-cycle theory can also be extended to loan interest rate setting, but that lenders tend to subsidise loans to new firms which suggests a long-term lock-in strategy. Based on financial life-cycle theory that explores firm size and age effects, smaller and younger firms are shown to have limited available sources of finance and likely to result in higher loan interest rate. Different from existing studies that explore the size-age effect independently, we consider how the interaction of firm size and age affects the loan interest rate simultaneously. Our results provide clear evidence that loan interest rates vary systematically across firm size–age spectrum from micro-new firms to large-well-established firms, but new firms of any size class tend to receive lower interest rate offers than early-stage firms of the same size class. From a policy perspective, our results suggest that interventions designed to alleviate SME financing constraints need to consider not only whether credit is available, but also the price at which it is offered. In addition, our findings carry practical implications for both lenders and SMEs in terms of the pricing mechanism.
Keywords:
Bank loans
Firm size
Firm age
Interest rates
Financial life-cycle theory
SMEs
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