Edited by Mario Levis and Silvio Vismara
Chapter 24: How bank health affects the capital structure and performance of IPO firms: evidence from the Japanese financial crisis in the 1990s
The effect of the propagation of liquidity shocks through the bank–firm lending relationship is one of the central topics in banking research. For example, it is known that a negative shock on the banks leads to increases in the interest rate to their client firms(Kang and Stulz, 2000) that may have a negative impact on the investment activities and subsequent performance of the lender (Gibson, 1995). However, little is known about whether the bank’s health affects the behavior of lending firms who have a close relationship with the unhealthy bank. If a firm and a bank have a close relationship and it is difficult for the firm to change to another bank, this gives the bank the advantage of being able to require a higher interest rate from the firm or of lending more to the firm. Although in the short term the over-lending increases the revenue of the bank, in the long term, it may harm the source of the profit. The over-lending pushes up the cost of capital because of the increasing default cost and the fact that paying extra interest rates reduces the cash flow of the firm. Furthermore, the reduction of cash flow may cause firms to have insufficient equity capital after the IPOs and may lead to an increase in the cost of capital.
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