Working Paper: CEPR ID: DP18583
Authors: Viral Acharya; Maximilian Jager; Sascha Steffen
Abstract: Over the past two decades, banks have increasingly focused on offering contingent credit in the form of credit lines as a primary means of corporate borrowing. We review the existing body of research regarding the rationales for banks’ provision of liquidity insurance in the form of credit lines, their significance in managing corporate liquidity, and the reasons and circumstances under which firms opt to utilize them. We emphasize that the options for firms to both draw down and repay credit lines are put options issued by banks, which are exercised by firms in a correlated manner during periods of widespread stress, with adverse affects on bank intermediation thereafter. We discuss the bank capital and the bank funding channels that can drive these effects, contrasting their roles during the Global Financial Crisis and the Covid-19 outbreak. We conclude by discussing the increasing extension of bank credit lines to non-bank financial intermediaries, as well as the role of stress tests and monetary policy in managing the risks of contingent credit under stress.
Keywords: credit lines; banks; bank capital; COVID-19
JEL Codes: G01; G21
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Increased drawdowns of credit lines (G21) | Reduced liquidity for banks (G21) |
| Drawdown of credit lines (G21) | Liquidity risk (G33) |
| Double bank run (E44) | Liquidity issues for banks (G21) |
| Dash for cash (Y60) | Complex interaction between drawdowns and bank liquidity (E44) |