How Much Liquidity Insurance Do Credit Lines Provide?
60 Pages Posted: 9 Nov 2011 Last revised: 22 Jul 2017
Date Written: July 21, 2017
Abstract
To what extent do credit lines provide liquidity insurance? We investigate this question using a unique dataset with firms’ actual draw-down rates and find that firms draw down their lines of credit at higher rates than the initial contract rates recorded in Dealscan. More importantly, we find that, on average, firms borrow at 7-8 basis points below market rates by drawing down their credit lines. The draw-down rate benefit is small compared with the cost paid to maintain a credit line. Firms enjoyed a significant draw-down rate benefit during the 2007-2009 financial crisis, as well as when they borrow from relationship banks and more reputable banks. We also explore an alternative explanation for credit line uses. Consistent with the convenience hypothesis, we find that firms are more likely to draw down credit lines than obtaining new loans during times of greater short-term financing needs.
Keywords: Lines of credit, liquidity insurance, bank reputation, lending relationship, moral hazard.
JEL Classification: G21, G32
Suggested Citation: Suggested Citation
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