IDEAS home Printed from https://ideas.repec.org/a/eee/jebusi/v62yi6p577-603.html
   My bibliography  Save this article

Why do firms denominate bank loans in foreign currencies? Empirical evidence from Canada and U.K

Author

Listed:
  • Nandy, Debarshi K.

Abstract

We examine the determinants of the decision to raise bank loans in foreign currency, based on two samples of syndicated loans raised by U.K. and Canadian firms. By using the percentage of sales in the U.S. market for a firm, we proxy the exposure of the firm's cash flows to the U.S. dollar. We find strong evidence that firms which have substantial foreign sales are the ones that have a higher probability of borrowing in that foreign currency. In particular, we show that firms that have a significant portion of their sales in the U.S., will tend to hedge their exposure by borrowing in U.S. dollars. This result is consistent with the notion that foreign currency loans serve as a natural hedging instrument. Our results are also economically significant; they imply that a one standard deviation increase in the ratio of foreign sales in the U.S. increases the probability of borrowing in U.S. dollars by 23%. For the first time in the literature, we show that currency choice should be considered an integral feature of the loan contract, given interdependencies that exist between currency choice and other loan contract terms such as maturity and secured status. Our results show that maturity and secured status both affect the currency choice of the loan, however the manner in which they impact the currency choice varies between countries and is dependent on borrower characteristics.

Suggested Citation

  • Nandy, Debarshi K., 2010. "Why do firms denominate bank loans in foreign currencies? Empirical evidence from Canada and U.K," Journal of Economics and Business, Elsevier, vol. 62(6), pages 577-603, November.
  • Handle: RePEc:eee:jebusi:v:62:y::i:6:p:577-603
    as

    Download full text from publisher

    File URL: http://www.sciencedirect.com/science/article/pii/S0148-6195(09)00034-4
    Download Restriction: Full text for ScienceDirect subscribers only

    As the access to this document is restricted, you may want to search for a different version of it.

    References listed on IDEAS

    as
    1. Stulz, René M., 1984. "Optimal Hedging Policies," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 19(02), pages 127-140, June.
    2. Zimmerman, Jerold L., 1983. "Taxes and firm size," Journal of Accounting and Economics, Elsevier, vol. 5(1), pages 119-149, April.
    3. Henk Berkman & Michael E. Bradbury, 1996. "Empirical Evidence on the Corporate Use of Derivatives," Financial Management, Financial Management Association, vol. 25(2), Summer.
    4. Aliber, Robert Z, 1973. "The Interest Rate Parity Theorem: A Reinterpretation," Journal of Political Economy, University of Chicago Press, vol. 81(6), pages 1451-1459, Nov.-Dec..
    5. Dooley, Michael P & Isard, Peter, 1980. "Capital Controls, Political Risk, and Deviations from Interest-Rate Parity," Journal of Political Economy, University of Chicago Press, vol. 88(2), pages 370-384, April.
    6. Warner, Jerold B, 1977. "Bankruptcy Costs: Some Evidence," Journal of Finance, American Finance Association, vol. 32(2), pages 337-347, May.
    7. Melnik, Arie & Plaut, Steven, 1986. " Loan Commitment Contracts, Terms of Lending, and Credit Allocation," Journal of Finance, American Finance Association, vol. 41(2), pages 425-435, June.
    8. Ljungqvist Lars, 1994. "Asymmetric Information: A Rationale for Corporate Speculation," Journal of Financial Intermediation, Elsevier, vol. 3(2), pages 188-203, March.
    9. Levi, Maurice D, 1977. "Taxation and "Abnormal" International Capital Flows," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 635-646, June.
    10. Dennis, Steven & Nandy, Debarshi & Sharpe, Lan G., 2000. "The Determinants of Contract Terms in Bank Revolving Credit Agreements," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 35(01), pages 87-110, March.
    11. Amrit Judge, 2006. "Why and How UK Firms Hedge," European Financial Management, European Financial Management Association, vol. 12(3), pages 407-441.
    12. Ephraim Clark & Amrit Judge, 2008. "The Determinants of Foreign Currency Hedging: Does Foreign Currency Debt Induce a Bias?," European Financial Management, European Financial Management Association, vol. 14(3), pages 445-469.
    13. Frenkel, Jacob A & Levich, Richard M, 1975. "Covered Interest Arbitrage: Unexploited Profits?," Journal of Political Economy, University of Chicago Press, vol. 83(2), pages 325-338, April.
    14. Nelson, Forrest & Olson, Lawrence, 1978. "Specification and Estimation of a Simultaneous-Equation Model with Limited Dependent Variables," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 19(3), pages 695-709, October.
    15. Froot, Kenneth A & Scharfstein, David S & Stein, Jeremy C, 1993. " Risk Management: Coordinating Corporate Investment and Financing Policies," Journal of Finance, American Finance Association, vol. 48(5), pages 1629-1658, December.
    16. Esho, Neil & Sharpe, Ian G. & Webster, Kristian H., 2007. "Hedging and choice of currency denomination in international syndicated loan markets," Pacific-Basin Finance Journal, Elsevier, vol. 15(2), pages 195-212, April.
    17. Amemiya, Takeshi, 1979. "The Estimation of a Simultaneous-Equation Tobit Model," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 20(1), pages 169-181, February.
    18. Aron A. Gottesman & Gordon S. Roberts, 2004. "Maturity and Corporate Loan Pricing," The Financial Review, Eastern Finance Association, vol. 39(1), pages 55-77, February.
    19. Booth, James R. & Booth, Lena Chua, 2006. "Loan Collateral Decisions and Corporate Borrowing Costs," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 38(1), pages 67-90, February.
    20. Allayannis, George & Ofek, Eli, 2001. "Exchange rate exposure, hedging, and the use of foreign currency derivatives," Journal of International Money and Finance, Elsevier, vol. 20(2), pages 273-296, April.
    21. Mayers, David & Smith, Clifford W, Jr, 1982. "On the Corporate Demand for Insurance," The Journal of Business, University of Chicago Press, vol. 55(2), pages 281-296, April.
    22. Tom Aabo, 2006. "The Importance of Corporate Foreign Debt in Managing Exchange Rate Exposures in Non-Financial Companies," European Financial Management, European Financial Management Association, vol. 12(4), pages 633-649.
    23. Nance, Deana R & Smith, Clifford W, Jr & Smithson, Charles W, 1993. " On the Determinants of Corporate Hedging," Journal of Finance, American Finance Association, vol. 48(1), pages 267-284, March.
    24. Alan C Shapiro, 1984. "The Impact of Taxation on the Currency-of-Denomination Decision for Long-Term Foreign Borrowing and Lending," Journal of International Business Studies, Palgrave Macmillan;Academy of International Business, vol. 15(1), pages 15-25, March.
    25. Aron A. Gottesman & Gordon S. Roberts, 2007. "Loan Rates and Collateral," The Financial Review, Eastern Finance Association, vol. 42(3), pages 401-427, August.
    26. Myers, Stewart C., 1977. "Determinants of corporate borrowing," Journal of Financial Economics, Elsevier, vol. 5(2), pages 147-175, November.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. repec:eee:intfin:v:52:y:2018:i:c:p:211-226 is not listed on IDEAS

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:eee:jebusi:v:62:y::i:6:p:577-603. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Dana Niculescu). General contact details of provider: http://www.elsevier.com/locate/jeconbus .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.