The Employment Effects of Credit Market Disruptions: Firm-level Evidence from the 2008-09 Financial Crisis

This paper investigates the effect of bank lending frictions on employment outcomes. I construct a new dataset that combines information on banking relationships and employment at two thousand nonfinancial firms during the 2008-09 crisis. The paper first verifies empirically the importance of banking relationships, which imply a cost to borrowers that switch lenders. I then use the dispersion in lender health following the Lehman crisis as a source of exogenous variation in the availability of credit to borrowers. I find that credit matters. Firms that had pre-crisis relationships with less healthy lenders had a lower likelihood of obtaining a loan following the Lehman bankruptcy, paid a higher interest rate if they did borrow, and reduced employment by more compared to pre-crisis clients of healthier lenders. Consistent with frictions deriving from asymmetric information, the effects vary by firm type. Lender health has an economically and statistically significant effect on employment at small and medium firms, but the data cannot reject the hypothesis of no effect at the largest or most transparent firms. Abstracting from general equilibrium effects, I find that the withdrawal of credit accounts for between one-third and one-half of the employment decline at small and medium firms in the sample in the year following the Lehman bankruptcy.