a1 Johnson Graduate School of Management, Cornell University, Sage Hall, Ithaca, NY 14853. email@example.com
a2 Shidler College of Business, University of Hawaii at Manoa, 2404 Maile Way, Honolulu, HI 96822. firstname.lastname@example.org
a3 School of Economics and Management, Tsinghua University, Beijing, 100084, China. email@example.com
We study a transitional economy where state-controlled banks make loan decisions based on noisy inside information on prospective borrowers, and may lend to avert unemployment and social instability. In China, poor financial performance and high managerial expenses increase the likelihood of obtaining a bank loan, and bank loan approval predicts poor subsequent borrower performance. Negative event study responses occur at bank loan announcements, particularly for borrowers measuring poorly on quality and creditworthiness, or for lenders or borrowers involved in litigation regarding loans. Our results highlight dilemmas in a state-led financial system and the local stock market’s sophistication in interpreting news.
(Online publication June 06 2011)
We thank David Tang and Jun Wang for their research assistance. We thank conference participants at the May 2007 International Finance Conference at Queen’s University, 2007 China International Finance Conference at Chengdu, 2007 Chinese University of Hong Kong and Tsinghua Workshop on Finance and Accounting at Beijing, 2008 Eastern Finance Association Annual Meeting at Tampa, 2008 China Summer Institute at Dalian, 2008 Cheung Kong Graduate School of Business Finance Research Summer Camp at Hangzhou, 2008 Financial Management Annual meeting at Dallas, 2009 Third CAF-FIC-SIFR (Centre for Analytical Finance (CAF) at the Indian School of Business, Hyderabad, the Financial Institutions Centre (FIC) at the Wharton School, and the Swedish Institute for Financial Research (SIFR) at Stockholm) Emerging Market Finance Conference at Indian School of Business Campus in Hyderabad, and seminar participants at Fudan University, Sun Yat-Sen University, and Xiamen University, as well as Matthew Billett (the referee), Jun-Koo Kang, Nicholas Lardy, Mark Leary, Inessa Love, Paul Malatesta (the editor), Kasper Meisner Nielsen, Jun “QJ” Qian, Rick Smith, and Per Strömberg for helpful comments or other assistance. Yang acknowledges financial support from the National Natural Science Foundation of China (NSFC) (Project Number: 70671060) and HSBC-Tsinghua China Rural Finance Research Grant.