Bank Size, Functional Distance and Loss Given Default Rate of Bank Loans

Abstract

Most of the studies available on relationship lending focuses on the benefits for borrowers and neglects those achievable for banks. In particular, empirical studies on the benefits achieved for banks in terms of loans recovery rate, in connection with loss given default rate, are very few. In contrast, choosing the best approach to managing loans is crucial in the current credit market considering the high deterioration in quality of bank loans.
This paper empirically tests whether the banks more oriented towards a relationship lending approach report a lower level of loss given default. Bank size and functional distance are used to measure the relationship lending approach in banks.
This paper takes into account the Italian banking system and the effectiveness of their debt recovery processes during the 2005-2008 period. The data has been collected by ABI Banking Data and Bank of Italy. The empirical analysis highlights that banks more oriented in the relationship lending model have a greater capacity to recover bad loans. These findings have some managerial implications.