Working Paper: NBER ID: w7319
Authors: Randall S. Kroszner; Philip E. Strahan
Abstract: This paper investigates what factors determine whether a commercial banker is on the board of a non-financial firm. We consider the tradeoff between the benefits of direct bank monitoring to the firm and the costs of active bank involvement in firm management. Given the different payoff structures to debt and equity, lenders and shareholders may have conflicting interests in running the firm. In addition, the U.S. legal doctrines of 'equitable subordination' and 'lender liability' could generate high costs for banks which have a representative on the board of a client firm that experiences financial distress. Consistent with high potential costs of active bank involvement, we find that bankers tend to be represented on the boards of large stable firms with high proportions of tangible ('collateralizable') assets and low reliance on short-term financing. The protection of shareholder versus creditor rights under the U.S. bankruptcy doctrines may reduce the role that banks play in corporate governance and the management of financial distress, in contrast to Germany and Japan. We conclude with implications for the current bank regulatory reform debate, such as whether to permit banks to own equity in non-financial firms that, in turn, could allow them to mitigate the conflict.
Keywords: bank monitoring; corporate governance; lender liability; equitable subordination
JEL Codes: G21; G28; K20
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| firm characteristics (size, stability, asset structure) (G32) | presence of bankers on boards (G21) |
| volatility of a firm (G32) | presence of bankers on boards (G21) |
| legal frameworks (K40) | presence of bankers on boards (G21) |
| presence of bankers on boards (G21) | active bank involvement in management (G34) |