Empirical Aspects of Relationship Banking

Relationship banking entails several behavioral aspects of banks that may be observable through empirical investigation. A relationship bank may make more credit available to its clients and mitigate their liquidity constraints; may reduce and share their business risks; may allow the firms to fare better in financial distress, often intervening in their management; and may affect their efficiency and profits.

3.1. Credit Availability and Mitigation of Liquidity Constraints

Many studies find that firms with a relationship bank enjoy easier access to credit.⁸ As indicated by Fukuda and Hirota (1996), this may be the result of the simultaneous determination of the MB relationships and the debt ratio. MB relationships increase corporate debt capacity by reducing the agency cost of debt, while firms with high debt ratios strengthen their MB relationships due to the associated agency problems. As far as credit availability is concerned, the effects of reduced information asymmetry and risk seem to outweigh the effects of discouraged risk-taking and information monopoly by relationship banks. This, however, does not necessarily mean that firms with a relationship bank grow faster. In fact, firms with a MB do not seem to grow faster than other firms because risk-averse banks discourage investment into risky projects even if the expected return may be very high (Nakatani, 1984; Weinstein and Yafeh, 1998).

Liquidity, or internal funds, is more attractive as a source of corporate investment given the information asymmetry between borrowers and lenders as well as incentive problems arising from the dilution of ownership stake due to external financing for the managers controlling the firms. With closer monitoring by MBs, Japanese firms might be expected to be little constrained in their investments. In other words, the investment of firms with a main bank might be less sensitive to firm liquidity.⁹

Several studies on Japanese MBs find them to have a significant role in mitigating liquidity constraints for corporate investment. Investment was found to be less sensitive to liquidity (or long-term debt) for firms with a MB or stronger links to a MB in terms of the level or stability of MB loan share, and MB ownership share (Hoshi, Kashyap, and Scharfstein, 1991; Mori, 1994). Tomiyama (2001) makes an indirect test of the same question, finding that the speed of employment adjustment in a financial crisis tends to be slower for firms with a strong MB relationship (in terms of ownership and loan shares of MB, etc.). This is seen as the result of their being less liquidity constrained. Hayashi (2000), however, finds no evidence that MB ties mitigate the firm’s liquidity constraints.

For German firms, Elston and Albach (1995) find some evidence that firms with significant bank ownership stakes had no liquidity constraints in the 1980s, unlike firms without a bank blockholder. However, Fohlin (1998a) finds that German firms with bank attachments, or even long-term bank relationships, were not associated with any significant reduction in their liquidity sensitivity of investment or rate of investment for the period 1903 to 1913, the formative years of universal banking.

For publicly traded U.S. firms, Houston and James (1995) find that firms relying on a single bank were significantly more cash flow constrained in the period from 1980 to 1993. The investment sensitivity to liquidity increased monotonically in the ratio of bank debt to total debt outstanding, an indication that they faced higher costs of external financing. They also held larger stocks of liquid assets and had lower dividend payout rates.¹⁰

Capital market deregulation and liquidity constraints

Some studies on Japanese banks investigate changes in the role of MBs since the 1980s, when Japan pursued capital market liberalization, asking whether they contributed to the generation of the bubble. The free-cash-flow hypothesis is often put forward in support of the argument that investment funded by securities issues in the 1980s was inefficient in the sense that some investment projects reduced corporate values (Jensen, 1986).

No particular role after the capital market deregulation? Hisatake and Oiwa (1999) find that firms with a MB could only have liquidity constraints mitigated before 1985 among Japanese heavy and chemical industrial firms, but that all firms permitted to issue convertible bonds without collateral did not face liquidity constraints thereafter. Weinstein and Yafeh (1998) also find that MB clients had significantly better access to capital prior to 1980 than other firms, an advantage which largely disappeared following the financial liberalization in the early 1980s.

Did MBs contribute to the asset price bubble and its collapse? In the period when Japanese firms were able to raise funds rather easily with equity issues and collateralbacked loans, it was found that MBs did not promote investment in securities or real estate through their loans. Still, they overlooked or encouraged over-investment on these assets by underwriting or insuring corporate bond issues by their clients (Uchida, 2000 and 2001). Based on a "firm scale maximization" model, Uchida (1999) also finds that MBs tended to mitigate under-investment (investments with a positive net present value not undertaken) problem during the high growth period in the 1960s; but caused overinvestment for low-growth companies in the first half of the 1980s (the evidence is not so strong); and in the first half of the 1990s (after the collapse of bubble), seem to have eased under-investment problems for high-growth companies.

3.2. Risk Reduction and Sharing

Relationship banking can be understood as an implicit commitment between the bank and its client firm, where the bank shares the business risk of the firm, while the firm shares its profits with the bank. There are different ways for the bank to share the risk of the client firm. One is to provide assistance to the firm in times of financial distress by issuing emergency funds, or dispatching bank officials for corporate restructuring, often bearing a disproportionate share of the restructuring costs. Another way of reducing corporate risk in normal times is for the bank to ease fluctuations in corporate performance. The bank can help the client firm by lowering interest rates in times of poor corporate performance, while receiving compensation by higher rates in times of better performance. This stabilizes the financial performance of their corporate clients and reduces the probability of the firms facing unwarranted bankruptcy.¹¹ Of course, banks might revise their view of the viability for some of their corporate clients when witnessing the deterioration of corporate performance. In this case, they might be reluctant to provide risk sharing in this form.

Does relationship banking lower the risk of client firms?

Uchida (1997A) argues that substantial MB loans to a firm give a positive signal to other market participants concerning the quality of the borrower, its profitability and its riskiness. Other lenders are likely to give low appraisals to the firm’s potential problem of moral hazard as the MB is expected to closely monitor and discourage investment projects with excessive risks. He finds that the systematic risk β, the risk indicator of individual security along the modern portfolio theory, is significantly smaller for firms that have strong relationships with MBs. He also finds that the higher the loan share of the MB, the smaller the influence of accounting data on β, and that this correlation is significant. That is, the lower the perceived risk of a company, the less the usefulness of accounting information concerning the assessment of corporate risk.¹²Another study uses bond yields as a measure of corporate risk, and finds no evidence that firms with a (bank) group affiliation were less risky for the period of 1983-92 (Hall and Weinstein, 2000).¹³

Risk- sharing

Kawai, Hashimoto and Izumida (1996) find that firms with bank borrowing (particularly those with MBs) tend to pay significantly lower interest rate premia in times of financial distress, while the opposite is the case for other firms for the period of 1964 through 1993. They identify a MB relationship as a single largest commercial bank lender that has remained unchanged at least for five years prior to the beginning of the financial distress as well as during the distress – a total of 10 years. Li (1999) finds significant risk-sharing in 46 percent of chemical and electronics industrial firms with a MB (higher than the 30% found by Horiuchi and Fukuda, 1987). He interprets this as supporting evidence for risksharing. Based on a regression analysis of the risk sharing coefficient (the share of the gap between corporate profit and normal lending rate reflected in the actual lending rate), Aman (2000) finds that MB relationships (MB delegation of directors or MB loan share) for Japanese chemical industrial firms had a significant risk-sharing role until 1985, while since 1986 the role has weakened or disappeared.

Collateral prices and risk-sharing. Saito and Sudo (1999) derive the response rate of risk-sharing to collateral value using a dynamic optimization model using some assumptions concerning MB decisions on the amount and interest rate of loans. They show that until the early 1980s, city banks provided “normal” insurance functions toward their client companies on the basis of increases in collateral value of real estate. With the asset bubble in the late 1980s, there was a substantial substitution effect for the insurance function. In the 1990s, with the collapse of the asset price bubble (and no longer any substitution), the insurance function of city banks continued to be damaged.¹⁴

3.3. Better Assistance in Periods of Financial Distress

Relationship banking is held to be most valuable in times of financial distress for borrowing firms. On the basis of information obtained in the process of relationship-based monitoring, relationship banks tend to respond quickly to the distress by mitigating liquidity constraints, restructuring debt, and undertaking the needed operational restructuring of borrowing firms. As a consequence, the probability of unwarranted bankruptcies should be lower. Among Japanese firms that experienced financial distress but recovered thereafter, firms in industrial groups (which thus had close financial relationships to their affiliated banks, suppliers, and customers) invested more and sold more after the onset of distress than non-group firms during 1978-85. Similar results were found for non-group firms that nevertheless had strong ties to a MB with a high ratio of MB loans to total loans (Hoshi, Kashyap, and Scharfstein, 1990; Okazaki and Horiuchi, 1992). Hall and Weinstein (2000) find that firms with a large share of bank loans from the top lender received more loans from that lender and all lenders in times of financial distress during 1983-92. What is important is not the MB relationship, but concentrated debtholding that mitigates the free-rider problem and facilitates the MB’s role as a coordinator of the creditors.¹⁵

Although Japanese firms with strong MB relationships seem to have been better assisted than those without such relationships during financial distress, how do Japanese firms in general compare with their American counterparts? Hall and Weinstein (1996) examine the investment behavior of U.S. and Japanese firms after the onset of financial distress. They find that financial distress causes R&D to fall in both countries by approximately the same amount, and that Japanese firms do not invest more than US firms after the onset of distress.

Results for small and medium-sized Korean firms are provided by Ferri, Kang and Kim (2001). As expected, they find that, for firms with strong pre-crisis relationship banking, outstanding loans decreased less, the drops in credit lines were smaller after the crisis, and the chance of building (increasing) their loans in arrears in 1998 (the year of the sharpest liquidity constraints) was lower (for previously non-delinquent firms).

Is more credit available when the relationship bank is also a significant shareholder? Hall and Weinstein (2000) present an interesting finding about the lending behavior of banks when the top lender also has a large equity stake. No significant impact on lending by the lender was found, while significant reductions were observed in lending by other financial institutions or total lending. This suggests that other banks perceive a conflict of interest between themselves and the top lender, who might compromise its position as a creditor with that of a shareholder.

3.4. Management Intervention in Financially Distressed Firms

In a stable, relationship-based system with MBs, corporate shareholders, and corporate groups, external corporate governance tools such as takeovers and proxy fights are rare. In such systems, the key to the efficiency of the system is whether or not the MBs and other corporations with stable relationships properly monitor and discipline the managers, or in other words, whether the relationships substitute for the more market-oriented US control mechanisms. Many empirical studies seek evidence for timely management intervention by MBs or other block holders when corporate performance deteriorates.

Japanese MBs are seen as providing a flexible, informal alternative to bankruptcy proceedings when managing the problems of financial distress and asset reorganization (Scheard, 1994). An announcement of the waiver of creditor rights has been observed to have little effect on the stock price of the MB, while having a significant positive effect on that of the defaulted firm. These positive-sum stock responses reflect investor expectations for the MBs' role in efficiently restructuring distressed firms (Uchida and Goto, 2001).

Kaplan and Minton (1993) find that the appointment of outside directors in Japan is followed by a turnover of incumbent managers, with bank appointments strongly correlated with the debt/assets ratio and the loan share for the largest lender. Kang and Shivdasani (1995) also find that non-routine top executive turnovers in Japanese corporations are significantly related to industry-adjusted returns on assets, excess stock returns, and negative operating income. This relationship and the likelihood of outside succession are found to be stronger for firms with a MB relationship. Miyajima, Kondo, and Yamamoto (1999) investigate the association between appointments of outside directors and firm performance for the largest Japanese firms, and find that banks systematically intervened in the management of distressed firms for monitoring during the high-growth period. There were sharp improvements in performance after the appointment of outside directors until the 1980s. However, they find no such relationships during the first half of the 1990s following the collapse of the bubble.

Are intervention standards different for non-group firms? Morck and Nakamura (1999) find that the appointment of bankers to corporate boards is positively associated with total debt, bank loans, and bank group links as well as cash flow and liquidity problems. Low stock returns and poor employment creation matter for bank group firms, but not for other firms. This finding was interpreted as meaning that Japanese banks act primarily in the short-term interests of creditors when dealing with firms outside of bank groups, while acting in the broader interests including those of shareholders when dealing with group firms. They also find that the share prices of bank group firms rose in the year of the appointment, and remained high, while those of other firms did not rise in the year of appointment and fell significantly in the following year to remain depressed.

Comparison between Japanese and U.S. firms

Some studies show that Japanese banks and blockholders perform some of the monitoring or disciplinary functions generally performed by the takeover market in the U.S. Many Japanese firms that experienced performance deterioration during the second half of the 1980s, like US firms, saw a contraction of assets and operations, significant changes in employment practices, and turnover of top executives, though their downsizing of assets and layoffs took place on a smaller scale. It is also found that firms with greater MB ownership were more likely to engage in asset restructuring, employee layoffs, and removal of outside directors among poorly performing firms (Kang and Shivdasani, 1997).

Kaplan and Minton (1994) find that appointments of bank and corporate directors increased significantly with poor stock performance (and earnings losses in the case of bank directors) and with measures of the intensity of the relationships (larger bank borrowings, or a large loan share for the top lender, concentrated shareholding, affiliation with a corporate group) in Japan. After bank directors arrive, corporate performance does not deteriorate in Japan, though the firms continue to contract. These findings compare favorably with those of U.S. firms, where appointments of outside directors were generally less sensitive to corporate performance and not associated with top executive turnover. Similarly, Kaplan (1993a, b) finds that manager compensation and turnover are more sensitive to earnings deterioration in Japan and Germany (than in the U.S.).

3.5. Effects on Firm Efficiency and Performance

Although close bank-firm relationships solve the asymmetric information and agency problems of managerial behavior, these benefits do not necessarily lead to superior corporate performance. The benefits may be largely appropriated by the banks, and the banks may discourage firms from investing in risky but profitable projects (Weinstein and Yafeh, 1998). MB monitoring and interlocking shareholding effectively substitute for the "missing" external takeover market in Japan (Sheard, 1989).

Lower capital costs?

Hosono (1997) finds that the lending interest rate spread was significantly negatively affected by the MB (the largest short-term lender) loan ratio in total debt during the 1982 to 1995 period for exchange-listed Japanese firms. However, the finding applied mainly to medium-sized companies, not for large firms. Based on the US National Survey of Small Business Finance, Petersen and Rajan (1994) find that the interest rates charged are little affected by the length of relationship or multiple services; while multiple banks are associated with a significantly higher rate.¹⁶ Relying on the same data set, Berger and Udell (1995) focus exclusively on lending under lines of credit, which represents more "relationship-driven" loans. They find that borrowers with longer banking relationship pay lower interest rates and are less likely to pledge collateral.¹⁷

Weinstein and Yafeh (1998), however, observe that Japanese MBs extracted significant rents through higher-than-average lending rates before the liberalization of the financial markets in the 1980s. Angelini, Di Salvo and Ferri (1998) also find that lending rates tend to increase with the length of the bank-firm relationship in Italy. In Germany, relationship banking is found to have no major impact on loan pricing (Elsas and Krahnen, 1998; Harhoff and Körting, 1998).

Better performance for firms with a relationship bank?

The Small and Medium Size Enterprise Agency (2000) finds that SMEs with close relationships with MBs (with bank shareholding in the firm) tend to have higher profits (ROA), sales growth, presence in new businesses, and withdrawal from non-profitable projects. Lichtenberg and Pushner (1994) find that the block holding of corporate equity shares by financial institutions is associated with better corporate performance.¹⁸

Several studies find that Japanese firms with a MB tend to have lower profits due mainly to the bank extracting rents from its client firms in the form of higher interest on the basis of its informational monopoly (Caves and Uekusa, 1976; Nakatani, 1984; Weinstein and Yafeh, 1995 and 1998). The lower cost-price margins found for keiretsu firms may reflect the tendency of the bank to encourage them to produce in excess of the pure profit maximizing level for the interests of other keiretsu firms (Weinstein and Yafeh, 1995). Morck, Nakamura, and Shivdasani (2000) find that equity ownership by a MB is negatively related (non-linearly and evident at low to moderate levels of bank ownership only) with firm value (q ratios) for exchange-listed Japanese manufacturing firms in 1986.¹⁹ This finding is consistent with the argument that moderate ownership levels significantly increase a bank’s power to appropriate surplus from client firms and that bank ownership is associated with relaxed financial constraints. Nitta (2000) finds stable shareholdings, especially those by banks and cross-shareholdings with non-financial companies, have a negative influence on corporate performance (stock prices, sales, ordinary profits, sales-to-profit ratios, ROA and ROE), while shareholdings by foreigners have a positive influence.

Technical efficiency of firms. Several studies concentrate on total factor productivity of firms as a measure of corporate managerial efficiency to investigate the effect of relationship banking. They find no positive effect of the MB relationship for large Japanese manufacturing firms (Hanazaki and Horiuchi, 2000 and 2001; Gower and Kalirajan, 1998). Rather, Hanazaki and Horiuchi (2000 and 2001) find a significant positive impact of market competition (particularly competitive pressures form abroad) as well as the debt/asset ratio (even though the latter effect was weaker in the 1980s), which is consistent with the hypothesis that debt disciplines corporate managers, as they are concerned about repaying debt (Grossman and Hart, 1982; Jensen, 1986). Gower and Kalirajan (1998) also find that the technical efficiency of Japanese manufacturing firms with close ties with a MB did not improve consistently and significantly in the 1980s.

Direct evidence of disciplining management. Kato (1997) provides direct evidence of a positive role for the inter-corporate relationship in corporate monitoring for Japanese manufacturing firms. He finds that CEOs of keiretsu firms earn 21% less than those of independent firms, and that the role of capital investment in the determination of CEO pay is more important for keiretsu firms than for independent firms. This indicates that the CEOs of keiretsu firms are rewarded for promoting capital investments (corporate expansion) that seem to be in the interests of the MB and other keiretsu firms. Similarly, Yasha and Yafeh (1998) provide evidence of management disciplining by large shareholders in Japanese firms. Concentrated shareholding (shares for the 10 largest shareholders, or for group members) was found to be associated with lower expenditures by management on activities that might generate private benefits such as R&D, advertisement/promotions, entertainment, general sales and administration. Evidence of such monitoring by creditors was also found, though it was less robust.

Better performance for firms with a MB and an efficient monitoring system. MBs have different monitoring systems. Tomiyama, Fukao, Sui, and Nishimura (2001) find that firms with a MB that have a better monitoring system demonstrate better accounting performance. The ratio of monitoring staff to total staff in the headquarters was found to have a significantly positive effect, while a proxy for the independence of the monitoring unit had positive but not significant effect for large Japanese firms during 1986-97.

Why the banking problem in Japan?

The Japanese banking sector has been in distress since the asset bubble collapse in the 1990s, with a large accumulation of non-performing loans. Some attribute this to the financial deregulation which began in the early 1980s, and undermined bank profits as well as their motivation to prudently monitor their client firms (Hellman, Murdock and Stiglitz, 1996).

However, Hanazaki and Horiuchi (2001) argue that the problem came not from deregulation, but from the comprehensive safety net provided by the financial authorities and the slow process of financial deregulation, which shielded incumbent financial institutions during the high growth period. Banks’ monitoring was largely neglected, as the government or market forces were unable to penalize inefficiently managed banks, making the sector potentially fragile even before the 1980s. They explain the Japanese banking problem with changes in banks’ major clients. As most reputable manufacturing firms no longer relied heavily on bank borrowings, the newly emerging major clients were firms in non-tradable sectors such as real estate. Unlike manufacturing firms, which are disciplined by foreign competition, these new clients needed to be closely monitored, but were not closely watched by banks. This neglect, combined with the asset-price bubble following the financial expansion, led to the drastic deterioration of bank loan portfolios.

Effects of German universal banking

Cable (1985) finds a generally significant positive impact on firm performance from interaction with banks for a sample of large publicly-held German firms. Along with the ratio of bank borrowing to total debt, more direct governance variables such as supervisory board representation and proxy voting also had a positive effect on profits. Schmid (1996) finds that corporate ROE displayed a U-shaped pattern as banks’ equity holdings increased, with interest rate on debt monotonically increasing for German firms. This finding is consistent with the prediction that, at a low level of ownership, banks use the increased ownership and voting power to divert earnings away from equity, but such incentives weaken with a further increase in equity shares.

Gorton and Schmid (1996) investigate the effect of bank-firm relationship (equity holding and proxy voting) on corporate accounting profits in Germany. For 1974, they find a positive effect of banks’ holdings of equity shares on corporate performance, while bank use of proxy votes did not have any impact on firm performance. In 1985, however, neither banks’ equity ownership nor proxy voting had any effect on firm performance (beyond that of other blockholders). The interest burden on debt was also found to be little affected by the bank-firm relationship. Bank representation on firms’ supervisory boards was also not found to lead to higher rates of investment or increased access to bank debt (Fohlin, 1997, 1998b), and was even negatively associated with the firms’ rates of return (Rettig, 1978; Tilly, 1994). Edwards and Fischer (1994) argue that it is impossible to conclude anything about the contribution of the German financial system to its (post-1945) economic performance (growth, investment rate, etc) on the basis of simple correlations.

3.6. Changes in Relationship Banking since the 1980s

Many people find that the practice of relationship banking has changed, particularly in Japan since the 1980s. There have been two distinct forces underlying these changes. One is the deregulation of financial markets, particularly corporate bond issues, and the other is the severe distress of the banking sector following the bubble collapse in the early 1990s. These two forces seem to have operated in the same direction in some respects, while working in opposing directions in others. For instance, financial market deregulation has weakened the MB relationship, while the prolonged recession and the increased risk of corporate default has made the MB relationship more important for many firms.

Overall, there do not appear to have been major changes in the MB system since the 1980s. Hirota and Horiuchi (2001) find that MB relationships have been rather stable even in the 1990s for the largest Japanese firms in terms of MB financing, shareholding, delegation of executives, and businesses related to debentures. They identified each firm’s MB based on a direct question to the largest Japanese firms, since MB relationships include many dimensions.

The rate of change is remarkably low, at around 2 percent every 5 years. The result, however, is very different from that based on the definition of the MB as that with 'the largest loan share' (see Table 1 [PDF 113kb | 1 page]). This definition has a problem for the purpose of studying MBs. Namely, the bank with the largest share does not necessarily have a long relationship with the firm (the bank with 'the largest loan share' often changes due to occasional surges of long-term borrowings from long-term credit or trust banks). Even though the share of MB loans in total corporate debt declined substantially in the first half of the 1990s, other MB functions, such as corporate ownership, delegation of officers and provision of trustee services for corporate bond issues, have not shown any marked decline (see Table 2 [PDF 112kb | 1 page]).

With the sharp increase in corporate defaults and non-performing loans, the attitudes of MBs and their corporate clients seem to have changed. Evidence shows that MBs have become more cautious about lending to risky firms, while many less creditworthy firms are more willing to accept MB monitoring in return for help in times of financial distress. During 1990-95, MB loan shares for distressed firms showed a tendency to decline. Economic Planning Agency (1997) interprets this as showing that MBs have become more cautious (and are tending to rely on monitoring) in selecting their clients since the collapse of bubble, and are trying to have relations with better companies, without having to provide easy bail-outs. It was also shown that the loan share of the MB is negatively affected by the risk of its borrowers (total debt) and positively affected by the (expected) profit/sales ratio. Miyajima and Arikawa (1999) analyze the debt selection pattern of major companies following the collapse of the bubble in Japan. Among firms with MBs, those with high expected returns tended to choose corporate bonds in the 1980s, probably to avoid bank monitoring, but this was no longer the case after the burst of the bubble.

In a survey conducted of all exchange-listed and over-the counter-traded companies in 1999, SMEs expressed a desire to strengthen their relationships with financial institutions, including MBs. This may be surprising, as Japanese firms are changing their financing modes, relying more on direct financing such as bonds, stock, CP, etc. Large companies also expressed a willingness to maintain their existing relationships with MBs. However, their expectations from banks seems to have changed: from the function of lender of last resort to the more explicit help of extending credit lines and emergency funds (Omura and Masuko, 2001).

Clearly, the functions of relationship banks are undergoing changes. As discussed earlier, many studies show that Japanese MBs were engaged in relationship-based information production and monitoring until the capital markets was liberalized in the mid- 1980s. As firms gained the ability to easily issue convertible bonds, however, liquidity constraints became less of a problem even for firms without a MB (Hisatake and Oiwa, 1999; Weinstein and Yafeh, 1998). The risk-sharing function was also significantly weakened or eliminated (Aman, 2000), being replaced by the asset price bubble in the late 1980s or being damaged by the burst of the bubble thereafter (Saito and Sudo, 1999). With their weakened role, Japanese MBs seem to have lost the power to extract rents from their clients (Weinstein and Yafeh, 1998). Since the 1980s German banks also can no longer affect firm performance (Gorton and Schmid, 1996). Japanese MBs have become less willing and less capable of providing rescue to their clients in financial distress since the 1990s (Miyajima, Kondo, and Yamamoto, 1999; Economic Planning Agency, 2000).

On the basis of the above review of empirical evidence, what can be said about the behavior of relationship banks or the merits and demerits of relationship banking? Table 3 [PDF 112kb | 1 page] provides some tentative answers to this question. Given that the review of evidence was not exhaustive and that there is still only scanty evidence on some aspects of relationship banking, this evaluation also reflects a judgment by the author on the strength of the theoretical argument. Evidence on the positive role of relationship banking seems to be fairly strong in at least three aspects. It gives client firms better access to credit, alleviating liquidity constraints in investment activity; it reduces the costs of financial distress as the banks can provide better care to troubled firms, often intervening in their management; and it tends to reduce the business risk of the firms. Firms with a close banking relationship generally do better in financial crisis, though they are affected more severely when their own relationship banks fall into serious distress. Evidence on the extraction of monopoly rents by relationship banks from client firms is mixed, although this tendency seems to be rather evident for Japanese main banks. In spite of the increased availability of credit, firms with a close banking relationship tend to grow more slowly than other firms, as the banks discourage risky projects. Finally, the evidence on corporate efficiency and profits is rather negative.

The views expressed in this paper are the views of the author/s and do not necessarily reflect the views or policies of the Asian Development Bank Institute nor the Asian Development Bank. Names of countries or economies mentioned are chosen by the author/s, in the exercise of his/her/their academic freedom, and the Institute is in no way responsible for such usage.

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