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The Effects of Formal and Informal Contracting in Credit Availability


  • This paper is the sole responsibility of its authors and the views presented here do not necessarily reflect those of Banco de España. Any errors are the authors. We thank A. Almazán, A. Purnanandam, S. Titman, and R. Townsend, three anonymous referees, and, in particular, Deborah Lucas, for their detailed and useful comments on previous versions of this paper, as well as those of participants at the 2005 Pro-Banker Symposium in Maastricht and at the 2006 European Finance Association meeting in Zurich. We also thank R. Repullo for his careful reading and useful comments of the last version of the paper, as well as R. DeYoung, for his advice and patience, as well as K. Clark and M. Wardlaw for editorial assistance. Vicente Salas acknowledges financial support from project SEJ2007-67895-Co4-o4.


This paper investigates how the use of collateral (formal contracting), along with the market power of banks (which facilitates relational contracts), affects the availability of credit for business firms. Using loan data from the Spanish Credit Register, we show that the average credit quality of borrowers in a provincial market decreases with market concentration and the availability of collateral. Additionally, the marginal effect of each variable decreases with the higher values of the other variable. We also find that credit line interest rates increase with the availability of collateral, although the increase is lower for banks operating in more concentrated credit markets. Therefore, market power (relations) and collateral (formal contracting) act as substitutes to increase the availability of bank finance under asymmetric information.