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External Financing Costs and Banks Loan Supply: Does the Structure of the Bank Sector Matter?

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  • Charlotte Ostergaard

Abstract

This paper investigates whether banks loan supply depend on internally generated capital in a fashion that varies according to the size-structure of the bank sector. Banks may experience liquidity constraints if it is costly to raise uninsured funds and recent evidence suggests that external financing costs may be particularly high for small banks. Considering that retail loan markets are predominately local in nature, this paper ask whether the potential significance of individual-bank constraints carry over to a regional level in a manner that affects the overall supply of bank credit to local loan markets. Panel data for US states is used to study how state-level loan supply covaries with cash flow in bank systems with different size-structure. Shifts in the demand for loans induced by the Tax Reform Act of 1986 is used to identify loan supply. The results produce strong evidence of state-level supply effects. It is shown that loan supply of bank systems with a high percentage of small banks depends pro-cyclically on banks internal generation of capital and that no systematic covariation is present in bank systems with relatively few small banks.

Suggested Citation

  • Charlotte Ostergaard, 2000. "External Financing Costs and Banks Loan Supply: Does the Structure of the Bank Sector Matter?," FMG Discussion Papers dp357, Financial Markets Group.
    • Handle: RePEc:fmg:fmgdps:dp357
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    File URL: http://www.lse.ac.uk/fmg/workingPapers/discussionPapers/fmg_pdfs/dp357.pdf
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    Cited by:

    1. Buch, Claudia M., 2001. "Cross-Border Banking and Transmission Mechanisms: The Case of Europe," Kiel Working Papers 1063, Kiel Institute for the World Economy (IfW Kiel).
    2. Yuliya Demyanyk & Charlotte Ostergaard & Bent E. Sørensen, 2007. "U.S. Banking Deregulation, Small Businesses, and Interstate Insurance of Personal Income," Journal of Finance, American Finance Association, vol. 62(6), pages 2763-2801, December.
    3. Gorton, Gary & Winton, Andrew, 2003. "Financial intermediation," Handbook of the Economics of Finance, in: G.M. Constantinides & M. Harris & R. M. Stulz (ed.), Handbook of the Economics of Finance, edition 1, volume 1, chapter 8, pages 431-552, Elsevier.
    4. María José Luengo-Prado & Bent E. Sørensen, 2008. "What Can Explain Excess Smoothness and Sensitivity of State-Level Consumption?," The Review of Economics and Statistics, MIT Press, vol. 90(1), pages 65-80, February.
    5. Allen N. Berger & Richard J. Rosen & Gregory F. Udell, 2001. "The effect of market size structure on competition: the case of small business lending," Finance and Economics Discussion Series 2001-63, Board of Governors of the Federal Reserve System (U.S.).
    6. Driscoll, John C., 2004. "Does bank lending affect output? Evidence from the U.S. states," Journal of Monetary Economics, Elsevier, vol. 51(3), pages 451-471, April.
    7. Berger, Allen N. & Rosen, Richard J. & Udell, Gregory F., 2007. "Does market size structure affect competition? The case of small business lending," Journal of Banking & Finance, Elsevier, vol. 31(1), pages 11-33, January.

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