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A dynamic theory of bank lending, firm entry, and investment fluctuations

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  • Hu, Yunzhi

Abstract

This paper models a two-way dynamic feedback mechanism between bank lending standards and firm entry. The composition of the borrower pool affects banks' screening decisions and the credit terms they offer. Likewise, lending standards affect potential entrepreneurs' decisions to start new firms, varying the borrower pool. Firms delay borrowing when they wait for banks to finish screening or when they expect the borrower pool to improve soon. The model's predictions are consistent with basic facts on bank lending and firm entry. Moreover, the model explains why recoveries are particularly slow when preceded by large and long-term booms.

Suggested Citation

  • Hu, Yunzhi, 2022. "A dynamic theory of bank lending, firm entry, and investment fluctuations," Journal of Economic Theory, Elsevier, vol. 204(C).
    • Handle: RePEc:eee:jetheo:v:204:y:2022:i:c:s0022053122001053
    DOI: 10.1016/j.jet.2022.105515
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    Cited by:

    1. Lee, Michael Junho & Neuhann, Daniel, 2023. "Collateral quality and intervention traps," Journal of Financial Economics, Elsevier, vol. 147(1), pages 159-171.
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    3. Farboodi, Maryam & Kondor, Péter, 2023. "Cleansing by tight credit: Rational cycles and endogenous lending standards," Journal of Financial Economics, Elsevier, vol. 150(1), pages 46-67.

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    More about this item

    Keywords

    Bank lending standards; Dynamic adverse selection; Endogenous entry; Credit cycles;
    All these keywords.

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
    • G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy

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