July 4, 2023

Bank Funding, SME lending and Risk Taking

European companies heavily rely on bank credit to finance their operations and investments. Therefore, it is crucial for banks to take risks on corporate loans, although excessive risk-taking can have negative consequences for banks. There are indications in the literature that the financing structure used by banks plays a role in determining the risks they take. However, the economic literature does not provide clear consensus on how different elements of a bank's financing structure are related to risk. In this exploratory study, we investigated this relationship specifically focusing on corporate loans. This contributes to a better understanding of which companies receive funding and how a bank's financing structure itself can become a risk, particularly when riskier companies face bankruptcy.

The financing structure of banks primarily consists of equity (capital buffer), deposits (savings from households and businesses), market financing (funds raised from international investors), and interbank loans (loans between banks, including central bank loans). We analyzed the extent to which these individual financing elements contribute to the risks banks take on loans to companies.

For this purpose, we utilized a unique microdata set with financial information, linking European companies to their credit-providing banks. Our analysis covered the period 2015-2019 and revealed that banks utilizing more market financing tend to provide loans to riskier companies. This outcome is likely driven by a "search for yield" motive, although the exact underlying mechanism could not be determined with our data. The capital buffer of banks did not seem to have an impact on the risks they take on corporate loans.


Massimo Giuliodori (UVA)
Robert Schmitz

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