Abstract
Since information asymmetries have been identified as an important source of bank profits, it may seem that the establishment of information sharing will lead to lower investment in acquiring information. However, banks base their decisions on both hard and soft information, and it is only the former type of data that can be communicated credibly. We show that when hard information is shared, banks will invest more in soft, relationship-specific information. These will lead to more accurate lending decisions, favor small, informationally opaque borrowers, and increase welfare. Since relationship banking focuses on the usage of soft information, the model implies that investment in relationship banking will increase. We test our theory using a large sample of firm-level data from 24 countries.
Highlights
The importance of financial intermediaries in the production of information has long been recognized.1 Information provides competitive advantage and is an important source of bank profits
It might seem intuitive to think that when information is shared via credit bureaus or public credit registers banks will have lower incentives to invest in information collection, lower monitoring or screening, and quality of lending decisions and welfare may decline
Starting from the important distinction between hard and soft information, and the observation that only the former can be transferred through information sharing arrangements, we show that banks will invest more in acquiring soft information when hard information is shared
Summary
The importance of financial intermediaries in the production of information has long been recognized. Information provides competitive advantage and is an important source of bank profits. Because monitoring provides higher marginal returns on defaulting borrowers, the inside bank will acquire more soft information under the information sharing regime. Defaulting customers are less likely to switch If they have defaulted due to bad luck, the informed bank can reveal this by long-standing information acquisition and create value by good soft signals: these are the “relationship” customers. Prior to the IPO, firms are not required to release information.We imply that banks should deploy higher relationship intensity for IPO firms, especially if the firms are small and informationally opaque Such implications are in line with recent finding on the informativeness of bank loan agreements for IPO borrowers.
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