How Committed are Bank Lines of Credit? Experiences in the Subprime Mortgage Crisis

Using the subprime mortgage crisis as a shock, this paper shows that commercial borrowers served by more distressed banks (as measured by recent bank stock returns or the nonperforming loan ratio) took down fewer funds from precommitted, formal lines of credit. The credit constraints affected mainly smaller, riskier (by internal loan ratings), and shorter-relationship borrowers, and depended also on the lenders' size, liquidity condition, capitalization position, and core deposit funding. The evidence suggests that credit lines provided only contingent and partial insurance during the crisis since bank conditions appeared to influence credit line utilization in the short term. It provides a new explanation as to why credit lines are not perfect substitutes for cash holdings for some (e.g. small) firms. Finally, loan level analyses show that more distressed banks charged higher credit spreads on newly negotiated loans but not on funds disbursed from precommitted, formal credit lines. The author's analyses are based on commercial loan flow data from the confidential Survey of Terms of Business Lending (STBL).