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When do creditor rights work?

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  • Safavian, Mehnaz
  • Sharma, Siddharth
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    Abstract

    Creditor-friendly laws are generally associated with more credit to the private sector and deeper financial markets. But laws mean little if they are not upheld in the courts. The authors hypothesize that the effectiveness of creditor rights is strongly linked to the efficiency of contract enforcement. This hypothesis is tested using firm level data on 27 European countries in 2002 and 2005. The analysis finds that firms have more access to bank credit in countries with better creditor rights, but the association between creditor rights and bank credit is much weaker in countries with inefficient courts. Exploiting the panel dimension of the data and the fact that creditor rights change over time, the authors show that the effect of a change in creditor rights on change in bank credit increases with court enforcement. In particular, a unit increase in the creditor rights index will increase the share of bank loans in firm investment by 27 percent in a country at the 10th percentile of the enforcement time distribution (Lithuania). However, the increase will be only 7 percent in a country at the 80th percentile of this distribution (Kyrgyzstan). Legal protections of creditors and efficient courts are strong complements.

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    Bibliographic Info

    Paper provided by The World Bank in its series Policy Research Working Paper Series with number 4296.

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    Date of creation: 01 Aug 2007
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    Handle: RePEc:wbk:wbrwps:4296

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    Keywords: Debt Markets; Banks&Banking Reform; Emerging Markets; Labor Policies;

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    References

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    7. Aghion, Philippe & Bolton, Patrick, 1992. "An Incomplete Contracts Approach to Financial Contracting," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 59(3), pages 473-94, July.
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    12. Laeven, Luc & Majnoni, Giovanni, 2005. "Does judicial efficiency lower the cost of credit?," Journal of Banking & Finance, Elsevier, Elsevier, vol. 29(7), pages 1791-1812, July.
    13. Katharina Pistor & Martin Raiser & Stanislav Gelfer, 2000. "Law and finance in transition economies," Working Papers, European Bank for Reconstruction and Development, Office of the Chief Economist 48, European Bank for Reconstruction and Development, Office of the Chief Economist.
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    Cited by:
    1. Giofré, Maela, 2013. "Investor protection rights and foreign investment," Journal of Comparative Economics, Elsevier, vol. 41(2), pages 506-526.
    2. Djankov, Simeon & Ramalho, Rita, 2008. "Employment Laws in Developing Countries," CEPR Discussion Papers, C.E.P.R. Discussion Papers 7097, C.E.P.R. Discussion Papers.
    3. Martin Gassebner & Pierre-Guillaume Méon, 2010. "Where do Creditor Rights Matter? Creditor Rights, Political Constraints, and Cross-Border M&A Activity," Working Papers CEB, ULB -- Universite Libre de Bruxelles 10-019.RS, ULB -- Universite Libre de Bruxelles.
    4. Paulo G. Correa & Ana M. Fernandes & Chris J. Uregian, 2010. "Technology Adoption and the Investment Climate: Firm-Level Evidence for Eastern Europe and Central Asia," World Bank Economic Review, World Bank Group, World Bank Group, vol. 24(1), pages 121-147, January.
    5. International Finance Corporation & World Bank, 2008. "Doing Business 2009 : Comparing Regulation in 181 Economies," World Bank Publications, The World Bank, number 6313, August.
    6. Akbel, Basak & Schnitzer, Monika, 2010. "Creditor Rights and Debt Allocation within Multinationals," CEPR Discussion Papers, C.E.P.R. Discussion Papers 7958, C.E.P.R. Discussion Papers.
    7. Christa Hainz & Tatjana Nabokin, 2013. "Measurement and Determinants of Access to Loans," CESifo Working Paper Series 4190, CESifo Group Munich.
    8. Marcelin, Isaac & Mathur, Ike, 2014. "Financial development, institutions and banks," International Review of Financial Analysis, Elsevier, Elsevier, vol. 31(C), pages 25-33.
    9. Farla, Kristine, 2012. "Institutions and credit," MERIT Working Papers 038, United Nations University - Maastricht Economic and Social Research Institute on Innovation and Technology (MERIT).
    10. Germana Giombini & Désirée Teobaldelli, 2012. "The effects of tax evasion and the inefficiency of the legal system on firms’ financial constraints: are they complements or substitutes?," Working Papers, University of Urbino Carlo Bo, Department of Economics, Society & Politics - Scientific Committee - L. Stefanini & G. Travaglini 1207, University of Urbino Carlo Bo, Department of Economics, Society & Politics - Scientific Committee - L. Stefanini & G. Travaglini, revised 2012.
    11. Almeida, Rita & Carneiro, Pedro, 2008. "Enforcement of labor regulation and firm size," Social Protection Discussion Papers 43675, The World Bank.
    12. Mlambo, Kupukile & Murinde, Victor & Zhao, Tianshu, 2011. "How Does the Institutional Setting for Creditor Rights Affect Bank Lending and Risk-Taking?," Stirling Economics Discussion Papers, University of Stirling, Division of Economics 2011-03, University of Stirling, Division of Economics.

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