S T A T E - O W N E D B A N K S V E R S U S P R I V A T E B A N K S I N S O U T H A S I A
and after recapitalization is absent in Pakistan and Sri Lanka. In Bangladesh, Pakistan, and Sri Lanka, debt financing of private banks is unaffected or decreases slightly right before and during episodes of distress. After the period of distress, SOCBs also appear to decrease debt financing. This finding contrasts with the estimates for India, which showed increasing debt financing of SOCBs in distress and confirmed the hypothesis of soft budget constraints. This disparity may in part arise because the Prowess and Fitch Connect data are not entirely compatible in their definition of categories and dating, as mentioned.
Analyzing the Effect of Firms’ Banking with SOCBs Compared with Private Banks SOCB distress can have vital economic impacts on firm financing and private investments. For instance, if SOCBs are more prone to distress than private banks, and in distress, predominantly adjust by reducing longer-term lending to SMEs, small private firms doing business primarily with SOCBs will suffer a greater loss of access to financing or unrealized investments over time. In contrast, if SOCBs are as equally prone to distress as private banks and, thanks to softer budget constraints, can issue debt or get equity injection and continue lending even in distress, private firms doing business primarily with SOCBs will experience a smaller loss of access to financing and unrealized investments over time. We try to shed some light on these matters next.
Estimating the Effect of Banking with SOCBs on Investment by Client Firms As a first step in our analysis, we linked firms to banks in the Prowess data set. This linking of firms with banks is possible only for India. With these links established, we could merge our panel bank-level data set for India with the firm-level data set for India constructed in Melecky and Sharma (2020). As a result, we built a firm-level panel with key firm
characteristics, such as total firm assets, firm age, and sector, as well as key indicators of banks, notably bank ownership type. While our analysis relates banks to all firms, it focuses on successful firms with higher sales growth and SMEs to understand whether SOCBs can help reallocate capital to more productive firms and whether they can effectively work with more opaque SMEs as well as with large corporations. Namely, do successful firms with high sales growth get enough credit from both private and state banks to invest and realize their potential? Controlling for their size and age, do SMEs get adequate access to finance from both private and state banks to invest and grow? And do successful SMEs with growing sales get adequate lending support from SOCBs— compared with support from private banks— to grow and create productive jobs? Our regression analysis controlled for firm-specific effects and common shocks using firm-level fixed effects and year dummies. It focused on one key outcome measure relating to firms: their ability to sustain investments, measured as (log-log) change in fixed assets. Because firms use multiple banks, we used two types of dummy variables in our estimations. The first dummy captured whether any of the banks to which the firm is linked is an SOCB (yes = 1, otherwise 0). The second dummy captured whether a majority of the linked banks are SOCBs (yes = 1, otherwise 0). We report the estimation results in table 2B.7 using the former type of classification (dummy variable) because the results from the two dummies are not materially different. Our estimation results suggest that, on average, larger and older firms invest (grow their fixed assets) more than smaller or younger firms. Also, firms invest and then gradually deplete (depreciate) investments before investing again—hence, the negative correlation with the lagged investment value. Importantly, more successful firms with a higher growth of sales invest more. As for the links with SOCBs versus private banks, the story of firm investment needs to be unpacked in two stages.
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