Essays in Banking and Corporate Governance

The thesis Essays in Banking and Corporate Governance comprises of three chapters, where first and last essay study the firm behavior in response to improved governance and bank forbearance policy, respectively, and the second chapter study the role of capital in a clean-up program. The first chapter, titled, Corporate Governance, Capital Structure and Investment: Evidence from a Natural Experiment advances our understanding on the how improvement in corporate governance improves firms\u27 capital structure, banking relationships and investments. Using a novel governance reform from India, the paper finds that improvement in governance makes firms stable and financially flexible as capital structure tilts towards equity and new debt is cheaper and sourced from well-capitalized banks. The second chapter, titled, Bank Cleanups, Capitalization and Lending: Evidence from India , studies the impact of bank clean-ups program on bank lending. The paper studies the role of ex-ante recapitalization and/or capital backstop program in a cleanup program undertaken during a normal period. Bank clean-up programs are regulatory initiated programs designed to reveal the state of banking sector and to improve the quality of financial intermediation, usually in response to a crisis. The paper shows that banks do not have incentives to re-capitalize themselves after a clean-up, and as a result, banks reduce lending. Under-capitalization due to clean-up creates a debt overhang and generates risk-shifting incentives, making weakly-capitalized banks shift lending to zombie/riskier firms. The paper shows that an ex-ante recapitalization plan for bank clean-up is necessary to improve the bank\u27s health. The third chapter, titled, Does Regulatory Forbearance Exacerbate Agency Frictions Within Firms?: The Indian Experience\u27 , studies regulatory forbearance policy wherein the bank loans are restructured. Regulatory forbearance is regulator\u27s initiative to support bank loan restructuring of distressed firms during a crisis. The paper looks at the effect of restructuring of bank loans on firm\u27s governance, under a regulatory forbearance policy. The paper finds that forbearance regime provides a free put option on firms\u27 loans, and allows firm managers to increase their within-firm influence.. The paper shows that banks lower their monitoring due to relaxed norms, and the managerial influence increases within the firm after the restructuring