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Credit market competition and the nature of firms

  • Nicola Cetorelli

Empirical studies show that competition in the credit markets has important effects on the entry and growth of firms in nonfinancial industries. This paper explores the hypothesis that the availability of credit at the time of a firm's founding has a profound effect on that firm's nature. I conjecture that in times when financial capital is difficult to obtain, firms will need to be built as relatively solid organizations. However, in an environment of easily available financial capital, firms can be constituted with an intrinsically weaker structure. To test this conjecture, I use confidential data from the U.S. Census Bureau on the entire universe of business establishments in existence over a thirty-year period; I follow the life cycles of those same establishments through a period of regulatory reform during which U.S. states were allowed to remove barriers to entry in the banking industry, a development that resulted in significantly improved credit competition. The evidence confirms my conjecture. Firms constituted in post-reform years are intrinsically frailer than those founded in a more financially constrained environment, while firms of pre-reform vintage do not seem to adapt their nature to an easier credit environment. Credit market competition does lead to more entry and growth of firms, but also to complex dynamics experienced by the population of business organizations.

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Paper provided by Federal Reserve Bank of New York in its series Staff Reports with number 366.

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Date of creation: 2009
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Handle: RePEc:fip:fednsr:366
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  1. Nicola Cetorelli, 2004. "Real effects of bank competition," Working Paper Series WP-04-03, Federal Reserve Bank of Chicago.
  2. Raghuram G. Rajan & Luigi Zingales, 2001. "The Influence of the Financial Revolution on the Nature of Firms," CRSP working papers 525, Center for Research in Security Prices, Graduate School of Business, University of Chicago.
  3. Gina Luca Clementi & Hugo A Hopenhayn, 2006. "A Theory of Financing Constraints and Firm Dynamics," The Quarterly Journal of Economics, MIT Press, vol. 121(1), pages 229-265, 02.
  4. Evans, David S., 1986. "The Relationship Between Firm Growth, Size, and Age: Estimates for 100 Manufacturing Industries," Working Papers 86-33, C.V. Starr Center for Applied Economics, New York University.
  5. William Kerr & Ramana Nanda, 2006. "Democratizing Entry: Banking Deregulations, Financing Constraints, and Entrepreneurship," Harvard Business School Working Papers 07-033, Harvard Business School, revised Oct 2008.
  6. Evans, David S, 1987. "Tests of Alternative Theories of Firm Growth," Journal of Political Economy, University of Chicago Press, vol. 95(4), pages 657-74, August.
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  8. Daron Acemoglu & Simon Johnson & James A. Robinson, 2002. "Reversal Of Fortune: Geography And Institutions In The Making Of The Modern World Income Distribution," The Quarterly Journal of Economics, MIT Press, vol. 117(4), pages 1231-1294, November.
  9. Stanley L Engerman & Kenneth L. Sokoloff, 2002. "Factor Endowments, Inequality, and Paths of Development Among New World Economics," NBER Working Papers 9259, National Bureau of Economic Research, Inc.
  10. Bertrand, Marianne & Schoar, Antoinette S & Thesmar, David, 2004. "Banking Deregulation and Industry Structure: Evidence from the French Banking Reforms of 1985," CEPR Discussion Papers 4488, C.E.P.R. Discussion Papers.
  11. Luigi Guiso & Paola Sapienza & Luigi Zingales, 2002. "Does Local Financial Development Matter?," NBER Working Papers 8923, National Bureau of Economic Research, Inc.
  12. Dunne, T. & Roberts, M.J. & Samuelson, L., 1988. "Pattenrs Of Firm Entry And Exit In U.S. Manufacturing Industries," Papers 1-88-2, Pennsylvania State - Department of Economics.
  13. Luigi Zingales, . "Survival of the Fittest or the Fattest? Exit and Financing in the Trucking Industry," CRSP working papers 336, Center for Research in Security Prices, Graduate School of Business, University of Chicago.
  14. Nicola Cetorelli & Michele Gambera, 1999. "Banking market structure, financial dependence and growth: international evidence from industry data," Working Paper Series WP-99-8, Federal Reserve Bank of Chicago.
  15. Petersen, Mitchell A & Rajan, Raghuram G, 1995. "The Effect of Credit Market Competition on Lending Relationships," The Quarterly Journal of Economics, MIT Press, vol. 110(2), pages 407-43, May.
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  17. Raghuram G. Rajan & Luigi Zingales, . "Financial Dependence and Growth," CRSP working papers 344, Center for Research in Security Prices, Graduate School of Business, University of Chicago.
  18. Ron S Jarmin & Javier Miranda, 2002. "The Longitudinal Business Database," Working Papers 02-17, Center for Economic Studies, U.S. Census Bureau.
  19. Orley Ashenfelter, 2008. "Predicting the Quality and Prices of Bordeaux Wine," Economic Journal, Royal Economic Society, vol. 118(529), pages F174-F184, 06.
  20. Rui Albuquerque & Hugo Hopenhayn, 2002. "Optimal Lending Contracts and Firm Dynamics," RCER Working Papers 493, University of Rochester - Center for Economic Research (RCER).
  21. Nicola Cetorelli & Philip E. Strahan, 2004. "Finance as a Barrier to Entry: Bank Competition and Industry Structure in Local U.S. Markets," NBER Working Papers 10832, National Bureau of Economic Research, Inc.
  22. Douglas D. Evanoff & Evren Ors, 2008. "The Competitive Dynamics of Geographic Deregulation in Banking: Implications for Productive Efficiency," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 40(5), pages 897-928, 08.
  23. Hopenhayn, Hugo A, 1992. "Entry, Exit, and Firm Dynamics in Long Run Equilibrium," Econometrica, Econometric Society, vol. 60(5), pages 1127-50, September.
  24. Rui Albuquerque & Hugo A. Hopenhayn, 2004. "Optimal Lending Contracts and Firm Dynamics," Review of Economic Studies, Oxford University Press, vol. 71(2), pages 285-315.
  25. Michael T. Hannan, 2005. "Ecologies of Organizations: Diversity and Identity," Journal of Economic Perspectives, American Economic Association, vol. 19(1), pages 51-70, Winter.
  26. Richard E. Caves, 1998. "Industrial Organization and New Findings on the Turnover and Mobility of Firms," Journal of Economic Literature, American Economic Association, vol. 36(4), pages 1947-1982, December.
  27. Thorsten Beck & Asli Demirgüç-Kunt & Vojislav Maksimovic, 2004. "Bank competition and access to finance: international evidence," Proceedings, Federal Reserve Bank of Cleveland, pages 627-654.
  28. Boyan Jovanovic, 2001. "Fitness and Age: Review of Carroll and Hannan's Demography of Corporations and Industries," Journal of Economic Literature, American Economic Association, vol. 39(1), pages 105-119, March.
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