Learning by lending

Matthew J. Botsch

doi:10.1016/j.jfi.2018.03.002

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Learning by lending

2019-01-01

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Matthew J. Botsch

Victoria Vanasco *

DOI：10.1016/j.jfi.2018.03.002

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Abstract

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This paper studies bank learning through repeated interactions with borrowers from a new perspective. To understand learning by lending, we adapt a methodology from labor economics to analyze how loan contract terms evolve as banks acquire new information about borrowers. We construct proxy variables for this information using data from borrowers' out-of-sample, future credit performance. Due to the timing of their construction, banks could not have used these variables directly to price loans. We nonetheless find that these proxies increasingly predict loan prices as relationships progress, even after controlling for possible omitted variable bias. Our methodology provides strong evidence that: (a) bank learning affects loan prices, and (b) relationship benefits are heterogeneous. In particular, higher quality borrowers face differentially lower spreads as their relationship with lenders develop - and banks learn about their quality - while lower quality borrowers see loan prices increase and their loan amounts fall. We further find suggestive evidence that banks incorporate CEO-specific information into loan prices.

Keywords:

Learning

Banks

Information acquisition

Relationship lending

Syndicated loans

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