Capital Market Credit Rationing and Stock Risk

Abstract

Firms that raise capital face price and non-price costs in the process. Capital rationing is a phenomenon which may be categorized in two ways: a) A vertical supply curve of capital so that given all non-price factors, no additional funds can be obtained. Here, increases in demand result in a higher price of funds, but no supply response from lenders. b) Lenders supply a fixed amount of capital at the rate that would normally prevail in a competitive market, thus allowing demand shifts to result in changing non-price costs (e.g., collateral, operating restrictions, etc.). In either case, however, firms are limited in the amount of capital they can acquire, regardless of the price they are willing and able to pay. The purpose of this paper is to propose a proxy that measures capital market credit rationing and to then evaluate the hypothesis that firms facing prospective credit rationing when their debt refinancing requirements are high will experience higher levels of systematic risk.