The Number of Bank Relationships, Borrowing Costs and Bank Competition

Abstract

This paper provides new evidence on the effect of bank competition on the cost of lending, in an environment of reduced information asymmetries between firms and banks. We construct a simple model linking the number of bank relationships, the cost of lending and bank competition. Banks are exposed to more competition if the firm has many ongoing bank relationships that improve her threat point when negotiating borrowing costs. Moreover, increased competition in the banking sector might mitigate (substitute) or amplify (complement) this effect. Using a unique data set from Portugal, we find that when a firm borrows from one additional bank, the interest rate on bank loans for this firm becomes 9 to 20 basis points lower on average. In addition, we find that when local bank competition is more intense firms can benefit more from simultaneously engaging in several banking relationships, hence providing evidence of complementarity between competition and the number of bank relationships. However, we do not observe these effects for the smallest and youngest firms.