Academic journal article Journal of Money, Credit & Banking

Commercial Lending and Distance: Evidence from Community Reinvestment Act Data

Academic journal article Journal of Money, Credit & Banking

Commercial Lending and Distance: Evidence from Community Reinvestment Act Data

Article excerpt

The geographic area over which banks are willing to lend has important implications for the nature of competition in bank lending and, consequently, the application of antitrust policy to the banking industry. There is ample evidence, both anecdotal and systematic, that a number of large banking organizations, spurred on by innovations such as credit scoring, have substantially broadened the distances at which they are willing to extend some kinds of commercial loans. Indeed, for some large institutions and for some types of commercial credit, loans previously restricted by geography now appear to be offered virtually nationwide.

If these findings portend a greater willingness of lenders to extend credit to faraway borrowers, one might argue that this enhances the availability of competitively priced credit by providing borrowers access to a wider array of prospective lenders. Since borrowers will be less dependent upon local lenders, the implication is that the size of geographic markets used in antitrust analysis should be revised upward over time. However, while increases in average distances between lenders and their borrowers may have implications for antitrust policy, the conclusions to be drawn will be substantively different if those increases reflect the behavior of a limited subset of lenders and apply only to certain types of loans.

A considerable body of research provides ample reason to believe that important differences in the distances between borrower and lender may exist as a result of inherent differences in the characteristics of the loan products and in the screening technology employed. As discussed in more detail below, several contributions have argued that large banks tend to engage in "transaction-driven" lending that relies heavily on "hard" information, such as that obtainable from balance sheets and other directly observable sources, while smaller banks tend to engage in "relationship-driven" lending that tends to rely disproportionately on close monitoring and less tangible sources of information.

One cannot assume that transaction-driven loans are invariably made at longer distances, while relationship-driven loans are invariably made at shorter distances. It does seem likely, however, that the former type of lending involves, on average, longer distances than the latter and that the adoption of innovations, such as credit scoring, by larger institutions may have resulted in an increase in the distances for the "transaction-driven" loans of large banks but not for the "relationship-driven" loans of smaller banks. In fact, theories (to be cited below) have been advanced that may be interpreted to suggest that, for the relationship-driven loans of smaller lenders, distance may not be losing its grip as a deterrent to lending. Indeed, it may even be becoming, on average, more important, implying, all else equal, an actual reduction in the distance between borrower and lender for this type of lending.

Because of these potential differences in the role of distance and because (as documented below) the vast bulk of the dollar volume of commercial lending still appears to be quite local in nature, this paper employs a new source of data to examine the relationship between lending decisions and distance at the shorter end of the distance spectrum. The analysis makes use of detailed information, collected annually as a result of changes in the regulations implementing the Community Reinvestment Act (CRA), on the location of borrowers. For some reported estimations, a procedure is employed that accounts for spatially correlated errors across census tracts. We report three basic findings: (1) distance operates as a deterrent to lending, even within areas traditionally defined as local markets, (2) distance is more of a deterrent for small banks than for larger organizations, even within these areas, and (3) for those commercial loans made within areas currently treated by regulators as markets, distance has not been declining in importance. …

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