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The importance of bank seniority for relationship lending

  • João A. C. Santos

    (Federal Reserve Bank of New York)

  • Stanley D. Longhofer

    (Wichita State University - W. Frank Barton School of Business)

This paper brings together two seemingly unrelated branches of the literature that focuses on different aspects of a bank's interaction with its borrowers: the relative priority of bank debt, and the role of banks as "relationship lenders". Specifically, we show that bank seniority plays an important role in encouraging the formation of ongoing bank/firm relationships. Because the bank is senior, it is more able to reap the benefits from its relationship with the firm; because the firm has a relationship with a bank, it is more willing to exert effort, thus reducing the impact of a recession on its prospects. As a result, the firm's ex ante value is enhanced when the bank's debt is senior to that of the firm's other creditors.

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Paper provided by Bank for International Settlements in its series BIS Working Papers with number 58.

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Length: 37 pages
Date of creation: Nov 1998
Date of revision:
Handle: RePEc:bis:biswps:58
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  1. Joseph G. Haubrich & Robert G. King, 1984. "Banking and Insurance," NBER Working Papers 1312, National Bureau of Economic Research, Inc.
  2. Xavier Freixas & Jean-Charles Rochet, 1997. "Microeconomics of Banking," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262061937, June.
  3. Berlin, Mitchell & Mester, Loretta J, 1999. "Deposits and Relationship Lending," Review of Financial Studies, Society for Financial Studies, vol. 12(3), pages 579-607.
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  5. Bolton, Patrick & Scharfstein, David S, 1996. "Optimal Debt Structure and the Number of Creditors," Journal of Political Economy, University of Chicago Press, vol. 104(1), pages 1-25, February.
  6. Degryse, Hans & Van Cayseele, Patrick, 2000. "Relationship Lending within a Bank-Based System: Evidence from European Small Business Data," Journal of Financial Intermediation, Elsevier, vol. 9(1), pages 90-109, January.
  7. James, Christopher, 1988. "The use of loan sales and standby letters of credit by commercial banks," Journal of Monetary Economics, Elsevier, vol. 22(3), pages 395-422.
  8. Berger, Allen N & Udell, Gregory F, 1995. "Relationship Lending and Lines of Credit in Small Firm Finance," The Journal of Business, University of Chicago Press, vol. 68(3), pages 351-81, July.
  9. Welch, Ivo, 1997. "Why Is Bank Debt Senior? A Theory of Asymmetry and Claim Priority Based on Influence Costs," Review of Financial Studies, Society for Financial Studies, vol. 10(4), pages 1203-36.
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  13. Oliver Hart & John Moore, 1997. "Default and Renegotiation: A Dynamic Model of Debt," Harvard Institute of Economic Research Working Papers 1792, Harvard - Institute of Economic Research.
  14. Mitchell A. Petersen & Raghuram G. Rajan, 1994. "The Effect of Credit Market Competition on Lending Relationships," NBER Working Papers 4921, National Bureau of Economic Research, Inc.
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  16. Petersen, Mitchell A & Rajan, Raghuram G, 1994. " The Benefits of Lending Relationships: Evidence from Small Business Data," Journal of Finance, American Finance Association, vol. 49(1), pages 3-37, March.
  17. repec:tpr:qjecon:v:109:y:1994:i:4:p:1055-84 is not listed on IDEAS
  18. Boyd, John H. & Prescott, Edward C., 1986. "Financial intermediary-coalitions," Journal of Economic Theory, Elsevier, vol. 38(2), pages 211-232, April.
  19. Mitchell Berlin, 1996. "For better and for worse: three lending relationships," Business Review, Federal Reserve Bank of Philadelphia, issue Nov, pages 3-12.
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  23. Slovin, Myron B & Sushka, Marie E & Polonchek, John A, 1993. " The Value of Bank Durability: Borrowers as Bank Stakeholders," Journal of Finance, American Finance Association, vol. 48(1), pages 247-66, March.
  24. Boot, Arnoud W A & Thakor, Anjan, 1997. "Can Relationship Banking Survive Competition?," CEPR Discussion Papers 1592, C.E.P.R. Discussion Papers.
  25. Rajan, Raghuram & Winton, Andrew, 1995. " Covenants and Collateral as Incentives to Monitor," Journal of Finance, American Finance Association, vol. 50(4), pages 1113-46, September.
  26. Douglas W Diamond, 1992. "Bank Loan Maturity and Priority when Borrowers can Refinance," CEPR Financial Markets Paper 0022, European Science Foundation Network in Financial Markets, c/o C.E.P.R, 77 Bastwick Street, London EC1V 3PZ..
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  29. Stanton, Sonya Williams, 1998. "The Underinvestment Problem and Patterns in Bank Lending," Journal of Financial Intermediation, Elsevier, vol. 7(3), pages 293-326, July.
  30. Ongena, Steven & Smith, David C., 2000. "What Determines the Number of Bank Relationships? Cross-Country Evidence," Journal of Financial Intermediation, Elsevier, vol. 9(1), pages 26-56, January.
  31. Thakor, Anjan V., 2000. "Relationship Banking," Journal of Financial Intermediation, Elsevier, vol. 9(1), pages 3-5, January.
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  33. Diamond, Douglas W., 1993. "Seniority and maturity of debt contracts," Journal of Financial Economics, Elsevier, vol. 33(3), pages 341-368, June.
  34. Rajan, Raghuram G, 1992. " Insiders and Outsiders: The Choice between Informed and Arm's-Length Debt," Journal of Finance, American Finance Association, vol. 47(4), pages 1367-400, September.
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