George Kanatas

Equilibrium loan pricing under the bank-client relationship

Abstract We determine the loan interest rate policy of a lender who is better informed about a client than other potential lenders. The informational advantage possessed by the informed lender derives from the durability of information acquired as a result of an extant relationship. Given heterogeneous potential loan rate offers to the client by competitive lenders and client search costs, the incumbent lenders policy of loan interest rate offers is examined. We show that the optimal loan rate will exceed the incumbent lenders cost of funds and will exceed the average offer of competing lenders. The potential lenders will offer loan rates that are exceeded by their cost of funds, implying immediate losses in order to attract the client and to thereby earn expected profits in the future. Finally, we show that the expected remaining duration of a lender-client relationship is decreasing in the existing length of the relationship. Thus, clients that have been with a particular lender longer will be more likely to leave and establish a relationship with another lender.

Religion and Corporate (Mis)Behavior

We provide evidence that religiosity deters unethical corporate behavior. Firms headquartered in highly religious counties are less likely to backdate options, grant excessive compensation packages to their managers, practice aggressive earnings management, and be the target of class action securities lawsuits. Our results are strongest for locations with greater concentrations of Protestants, and especially of Mainline Protestants. Finally, we find that a regulatory change designed to curb option backdating has had a much larger effect in less religious counties, suggesting that in this case regulation and religion are substitute mechanisms for monitoring and control.

Commercial paper, bank reserve requirements, and the informational role of loan commitments

Abstract An explanation is provided of the often-observed purchase of ‘back-up’ bank loan commitments by corporations immediately preceding their sale of dealer-placed commercial paper. Since loan commitments are typically viewed as hedging instruments, our paper explains why a risk-neutral corporation would purchase this type of instrument and how it is priced. It is assumed that while firms know their own credit risks, neither banks nor the paper market can distinguish between some credit applicants. We show that the purchase of a commitment can identify these Firms to the market. The equilibrium is partially revealing; of the firms with unobservable quality, those with higher quality identify themselves by purchasing commitments while those with lower quality sell unbacked paper and are ‘pooled’ together. Unbacked paper is sold also by firms whose quality is observable. Unidentified firms in the lowest quality range do not sell commercial paper.

Dutch auction versus fixed-price self-tender offers for common stock

Abstract This paper studies distinctions between fixed-price and Dutch auction self-tenders for common stock. We find that fixed-price tenders pay higher premiums to retire greater equity fractions than Dutch offers yet generate similar total returns to stockholders. Accordingly, total returns are significantly higher in Dutch auctions after controlling for tender and firm characteristics. In addition, wealth transfers to owners of repurchased shares are significantly higher in fixed-price offers. The Dutch mechanism thus appears to induce increases in firm value with smaller disbursals of cash. These cost savings to investors who maintain their ownership may explain the popularity of the new technique.

Bank reserve requirements and monetary aggregates

The paper criticizes the traditional belief in the usefulness of reserve requirements for the control of monetary aggregates. It is shown that the efficacy of this policy tool is maintained only if the incentive it provides for financial innovations is ignored. If the relevant monetary aggregate is broader than that which is reserve-constrained, we show that reserve requirements may be counter-productive. An alternative policy involving the payment of interest on voluntarily held reserves is proposed and analyzed. It is shown that this approach has the stabilization effects attributed to reserve requirements, but without any of the latters adverse incentives.

Loan Commitments and the Management of Uncertain Credit Demand

We provide an explanation for loan commitments unrelated to borrower creditworthiness. In our model, banks can use loan commitments to reduce uncertainty regarding their own future funding needs. Given a cost advantage to banks that can acquire such information, there exists an equilibrium demand for commitments by riskneutral firms. The purchase of the loan commitment and the choice of contract terms reveals the buyers private information regarding future credit needs. In order to ensure the sorting of the a priori indistinguishable applicants according to their private information, we show that a usage fee applied to the commitment holders unused credit line is necessary.

Dividends and Debt with Managerial Agency and Lender Holdup

A well-known view in the literature is that if management is more concerned with the firms survival than with profitability, it is efficient to use a levered capital structure and thereby transfer the liquidation decision to lenders. Our paper extends this idea to a setting where lenders behave opportunistically when they control the liquidation decision. We show that in this situation, an optimal mix of debt and dividends can mitigate the twin moral hazard problems of the manager and the lender. Given an otherwise optimal capital structure, initiating a dividend policy increases firm value, lowers debt payments, but raises total cash disbursementsOinterest and dividendsOto investors. Numerous other empirical implications of the model are also discussed.

Ethics, welfare, and capital markets ☆

We examine implications of a societys cultural emphasis on moral sentiments. Entrepreneurs and investors interact in a game that entails both adverse selection and moral hazard; entrepreneurs may attempt to breach their contracts and expropriate investors. An agent is born into a particular culture but chooses whether to develop a moral conscience and thereby subject himself to moral sentiments. In equilibrium, societies that place less emphasis on guilt exhibit a lower risk of expropriation in contracts, a greater net price of capital, a larger size of firms, increased capital inflows and greater social welfare. The results of a greater emphasis on pride are in the same direction.

Can Venture Capital Be a Curse

Abstract We show that partnering with venture capitalists may be a curse to entrepreneurs in that it reduces their profits in the commercialization phase. Agents rationally infer that a likely reason an entrepreneur who has received managerial assistance (from a venture capitalist) refrains from a lucrative IPO and instead opts for an acquisition may be the low quality of his technology (which is unfixable), rather than of his management (which may be fixable). This leads to lower acquisition prices and greater IPO underpricing. From a social welfare standpoint, venture capital services are under-utilized and technologies are under-commercialized.