Working Paper: NBER ID: w23879
Authors: Gabriel Chodorow-Reich; Antonio Falato
Abstract: We document the importance of covenant violations in transmitting bank health to non-financial firms using a new supervisory data set of bank loans. Roughly one-third of loans in our data breach a covenant during the 2008-09 period, providing lenders the opportunity to force a renegotiation of loan terms or to accelerate repayment of otherwise long-term credit. Lenders in worse health are more likely to force a reduction in the loan commitment following a violation. The reduction in credit to borrowers who violate a covenant accounts for the majority of the cross-sectional variation in credit supply during the 2008-09 crisis.
Keywords: Loan Covenants; Bank Health; Credit Supply; Financial Crisis
JEL Codes: E44; G21; G32
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| lender health (G21) | likelihood of covenant violations (G33) |
| lender health (G21) | reduction in loan commitments (G21) |
| covenant violation (K42) | reduction in loan commitments (G21) |
| lender health (G21) | credit supply adjustments (E51) |
| covenant violations (K42) | reductions in investment and employment (E22) |
| credit supply adjustments (E51) | reductions in investment and employment (E22) |