A systemic financial crisis with monetary restriction is probably the most promising occasion for assessing whether, and to what extent, relationship banking is valuable to borrowers. The authors take this question to a unique database of credit bureau, microeconomic information covering the pervasive financial crisis the Republic of Korea experienced in 1997-98. The database includes all corporate borrowers surveyed by the Korean Credit Bureau, providing details on the structure of their borrowings, and on their relationship with lending banks. The authors did not have access to the identity of the corporate borrower, and their only non-financial control variable was the borrower's Standard Industrial Classification (SIC). This restriction limited their analysis to smaller borrowers, keeping their sample focused on small, and medium-size enterprises, which were likely to rely on banks for external financing. Their findings: 1) Outstanding loans plunge more for firms with weaker pre-crisis relationship banking. 2) The drop in credit lines - arguably a proxy identifying shifts in the loan supply - is larger for firms relying less on strong relationship banking. 3) More intense pre-crisis relationship banking reduces the probability that a previously non-delinquent firm would build (increase) its loans in arrears in 1998, the year of the sharpest liquidity constraints. 4) All things equal, this probability depends on whether firms were borrowing from one (or more) of the five banks foreclosed in June 1998, showing that it might be particularly difficult for borrowers to replace distressed lending banks during a financial crisis. The authors'findings support the hypothesis that relationship banking = with surviving banks - has a positive value during a systemic financial crisis. They argue that for many viable small, and medium-size businesses in Korea, relationship banking reduced liquidity constraints, and thus, diminished the probability of unwarranted bankruptcy.
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