On the Bank-led Rescues Financially Distressed Firms in Japan

Abstract

In this paper, we argue that the bank-led rescues of financially distressed firms in the heyday of the main bank system was inefficient since banks' implicit guarantee against bankruptcy resulted in moral hazard. The empirical results show that during the period before the financial deregulation of the 1980s main bank client firms retrenched operational expenses and improved corporate performance significantly less than the firms without close bank ties after the onset of financial distress. This evidence suggests that managers of bank-affiliated firms tended to do away with sharp downsizing by relying on financial support from their main bank.