Relationship Banking and Credit Scores: Evidence from a Natural Experiment

We show the effect of credit scores’ introduction on consumer credit prices. Utilizing a novel dataset of the universe of loans in Israel, we find that a decline in information asymmetry, following the introduction of credit scores introduction, led to a decrease in loan prices for households with strong relationship banking. Prior to that, when banks held a monopoly on potential borrowers’ credit history, they charged higher interest rates, all else equal, as predicted by theoretical models. We further show that these informational rents significantly decrease once credit scores are introduced, resulting in a decline in the hold-up problem. To the best of our knowledge, this paper is the first to show the causal impact of credit scoring on households’ loan pricing. Our results underscore the importance of information sharing in consumer credit markets, and have important public policy implications.