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The role of guarantees in bank lending

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Author Info
Alberto Franco Pozzolo () (Universita' degli Studi del Molise and Ente Luigi Einaudi)

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Abstract

Guarantees play an important role in debt contracts. They alter the risk for the lender, transform borrowersÂ’ incentives and, possibly, modify the equilibrium allocation of financial resources. This paper studies the role of guarantees on bank loans, using a sample of over 50,000 individual lines of credit granted by Italian banks. Two empirical models are used. The first directly verifies the relationship between ex-ante publicly available information on borrowersÂ’ default riskiness and the presence of guarantees on their bank loans; the second compares the interest rates charged on secured and unsecured loans made by different banks to the same borrower, thus perfectly controlling for idiosyncratic riskiness and singling out the direct effect of the presence of guarantees on credit risk. The empirical results show that real guarantees (physical assets or equities that the lender can sell if the borrower defaults), which are often internal, are mainly used to provide a priority to some creditors. Personal guarantees (contractual obligations of third parties to make payments in case of default, e.g. suretyships), which can only be external, are used instead as incentive devices against moral hazard problems. Controlling for borrowersÂ’ characteristics, both real and personal guarantees reduce ex-ante credit risk.

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Paper provided by Bank of Italy, Economic Research Department in its series Temi di discussione (Economic working papers) with number 528.

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Date of creation: Dec 2004
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Handle: RePEc:bdi:wptemi:td_528_04

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Related research
Keywords: Bank loans; collateral; guarantee;

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Find related papers by JEL classification:
G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Mortgages
G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Capital and Ownership Structure

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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. WATANABE Wako, 2007. "How Do Relationship Lenders Price Loans to Small Firms?: "Hold-Up" Costs, Transparency, and Private and Public Security," Discussion papers 07058, Research Institute of Economy, Trade and Industry (RIETI). [Downloadable!]
  2. Rai, Ashok S. & Klonner, Stefan, 2007. "Cosigners Help," Proceedings of the German Development Economics Conference, Göttingen 2007 18, Verein für Socialpolitik, Research Committee Development Economics. [Downloadable!]
  3. Salvatore Zecchini & Marco Ventura, 2009. "The impact of public guarantees on credit to SMEs," Small Business Economics, Springer, vol. 32(2), pages 191-206, February. [Downloadable!] (restricted)
  4. Columba, Francesco & Leonardo, Gambacorta & Paolo Emilio , Mistrulli, 2008. "Firms as monitor of other firms: mutual guarantee institutions and SME finance," MPRA Paper 14032, University Library of Munich, Germany. [Downloadable!]
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