EMPIRICAL LITERATURE OF INTERACTION BETWEEN INDUSTRIAL GROWTH AND COMMERCIAL BANK CREDIT

On the empirical side, there has been quit extensive work in industrialized economies on the relationship between bank credit, investment and industrial sector development. Most empirical research in this area focuses on the banking sector for reasons of data availability. Country specific studies reveal strong evidence of dynamic interactions between industrial sector development and bank credit in Hong Kong, Gerlach and Peng (2002).

Gerlach and Pench, for example, found both short term and long-term causality running from general prices and interest rates to credit but not the opposite. They also highlighted the effect of regulatory changes on credit expansion. Sanchez, Clarke, Cull and Peria (2002), using bank level data for Argentina, Chile, Colombia, and Peru over the mid 1990s, examined the impact of foreign bank entry on the share and growth rate of credit to small firms. Consistent with evidence from the US they found that medium and large domestic banks in the four countries devote less of their credit (as share of total credit) to small firms than small domestic banks. Also, in most countries, the share of credit devoted to small firms by domestic banks was dropping in the late 1990s evidenced by the negative and significant trend in the share estimations.
Contrary to popular belief, public banks do not appear to surpass private banks in the extent to which they give credit to small firms. This would seem to indicate that the argument that privatization of public banks would hurt small firms is at best weak. Regarding the impact of foreign bank entry on credit to small firms they found, consistent with conventional wisdom, that on average, foreign banks in he four countries generally gave credit less to small firms (as share of total credit) than private domestic banks (at least by end of period). However, the difference appears to be primarily due to the behaviour of small foreign banks. In all four cases, small foreign banks gave credit, considerably less to small firms than small domestic banks. In contrast, the difference was considerably smaller for large and medium sized banks. In fact, after controlling for other factors that might affect credit, large foreign banks actually appear to give more credit to small firms (as share of total credit) than large domestic banks in two of the four cases study countries, Chile and Colombia. Finally, in Argentina and Chile, the two cases were the ratio of banking sector assets to GDP consistently grew over the sample period, credit to small firms by medium and large foreign banks was positive and was growing more quickly than for similar domestic banks.
But Strahan and Welson (1998) found no significant change in the ration of small firms credit to assets following large merger and acquisitions. There is however, very little literature that deals directly with the implications of bank credit to investors and small-medium sized firms in developing countries. Argentina is the only country for which we found such studies.
Belger and Rozenwureel (2000), indicate that bank participation in Argentina is associated with a reduction of bank credit to medium sized firms from around 20 to 16 percent of total credit between 1996 and 1998.
In contrast, Escude et al, (2001), found that despite their lower tendency to give credit to small and medium sized firms, banks have increased both their propensity and their market share of giving credit to the sector between 1998 and 2000.
Using a rich data set on Argentinean business sector in December, 1998, Berger, Klapper, and Udell (2000), find that large banks and foreign owned banks are less inclined to extend credit to smaller firms which are likely to be informational opaque. Given the paucity of research on the impact of bank credit on industrial sector or access to credit and the importance of this issue from a policy stand point, further investigation is clearly warranted. In contrast, credit by small foreign banks was shrinking and was growing far more slowly than for similar domestic banks.
Quigley (1999) showed that the history of business activities and products/services prices play an important role in their determination and not merely fundamentals. He also suggested that moral hazard and over credit drive prices of goods and services as well as property price bubbles, for example in East Asia in the 1990s.
Hofman (2001) looked into a panel of 16 countries and found evidence that bank credit and house prices have a significant two-way interaction in the short run but that long run causality is from property prices to bank credit.
Goodhart (1995) investigated the role of house prices in determining credit growth in the United Kingdom and the United State. He found that changes in house prices significantly affected credit growth in the United Kingdom but not in the United State. There are also a few studies based on asset prices that include a mix of residential and commercial property prices (generally with a much higher weight of residential property).
Goodhard (1995) explained credit conditions with asset prices while Borie et al (1994) explained asset prices with credit conditions (debt/GDP ratio), and both found significant result. Hofman (2001) included a mixture of residential and commercial poetry prices in a vector error correction model (VECM) structure and again finds a strong dynamic interdependence between bank credit and property prices with the later being the causal element. He also found that fluctuations in bank credit and property prices are jointly determined by changes in real short-term interest rates. He notes that a difficulty with most macro level work including his own is to distinguish between credit demand and credit supply effects of real estate prices, both of which may be operative.
Work by Higgins and Osler (1997) and Helbling and Terrones (2003), found that house price busts cause reductions in output, especially in bank-based financial systems.
Furthermore, Choi and Smith (2002) extended existing real option theories by incorporating the stochastic interaction between unit price and cost, applied in commercial bank credit. They further empirically examined an implication derived from the model as to the relationship between credit practices in the banking industry and future uncertainties.  They focused on credit institutions to analyse the effect of uncertainties on credit (investment) decision for several reasons. For it is easy to identify the main source of uncertainties for the assets and liabilities of the financial institutions-default risk and interest rate changes. Second, the commercial credit institution provides a unique environment in which the correlation between investments cost (Liabilities) and output (loans) prices is quite high and positive since both depend heavily on interest rates. In all, bank credit may be subject to a high degree of irreversibility (e.g substantial loss in defaults). The real option model explains the relationship between levels of credit, loans-to-assets, and the uncertainties regarding interest income and expense cross-sectional credit activities, which confirms the importance of risk management. These results also showed that as banks increase one type of risk, e.g. interest rate risk. The risk as measured by loans/assets.
Olubiyo, S.O. and Hill G.P (2003), examined the changes in bank credit to the farm sector before and since the inception of the subsidized credit insurance in Nigeria, the study also identified the pattern of bank credit to different agricultural sub-sectors. The findings from the study suggested that there is the need for the government to review its policy of underwriting loans as an instrument to encourage increased bank credit to small-scale farmers. Evidence from the United States indicates that large and organizationally complex institutions find it difficult to give credit to information opaque small and medium sized enterprise (Berger and Udell (1995), Berger et al (1995); Keeton (1995), Levonian and Soller (1995), Berger and Udell (1996), Peek and Rosengren (1996), and Strahan and Weston (1996). These organizational diseconomies might explain why a number of studies have found that commercial banks, which as shown by Focarelli and Poozolo are typically large appear to allocate greater shares of their credit to activities and sectors dominated by big investors or large firms (Goldberg, 1992; Cho et al, 1987; and Clarke et al, 2000).
          Esterly, (2005) found that repeated structural adjustment credit from either the World Bank or the IMF failed to produce improvement on multiple macroeconomic outcomes including industrial growth.
           The study of Babatz and Conesa, (1997) used macro economic data to analyze the importance of financial factors on capital formation, they examined whether the privatization of banks 1991 has a significant effect on how different types of firms finance investment. They used data for 71 stock listed companies over the period 1994. By selecting a prior those firms, which were 24 more likely, to be financially constrained to use internal sources of financing. They found that larger firms experienced significant relaxation in their financial constraints.
          Rene (2000), in his paper examined how a country’ financial structure affects economic growth through its impact on how corporation raise funds. The paper defined country’s financial structure to consist of the institution, financial technology, and rules of the game tat define activity as organized at a point in time. It emphasized that the aspects of financial structure that encourage entrepreneurship are not the same as those that insure the efficiency of established firms. Financial structures that permit the development of specialized capital by financial intermediaries are crucial for economic growth.
          Fancisco, et al., (2008) analyzed the changes in both the access to financial markets and the financing (balance sheet) decisions in a sample of Chilean firms. The sample consists of 79 firms that are quoted in the stock market. The paper estimated and tested econometrically by OLS and GMM approached three issues. The first is whether the firms’ reliance on internal funds for investment has decreased in the more financially open period of the 1990s relative to the 1980s and, thus, whether investment has been more responsive to changes in the q-value of the firm. They examined whether financial liberalization and the development of the banking, stock and bond markets at the maturity of debt in the balance sheet of firms. They studied the extent to which firms specify and how aggregate financial market developments have impact on firm growth. They concluded that financial developments at the macro level indeed had an impact on the firm access to capital markets their financial structure and their rate of growth.
          Gelos and Werner, (1999) used plant-level data from the Mexican manufacturing sector, they find that cash flow is significantly correlated with investment before and after financial liberalization contributed to easing financing liberalization contributed to easing financing constraints for small firms and therefore to higher investment levels by increasing the availability of credit to these types of firms. They also found that collateral, in the firm of real estate, played an important role in determining investment especially after 1989.
          Lan, Jack, and Ananth (2000) examined the dynamics of external corporate financing choices in an international context. It analyzes jointly the reliance on domestic versus foreign financing and debt versus equity financing using panel-data on 30 countries from 1980-1997. The results shed light on current debates regarding the choice of debt and equity financing choices. In particular, privatization activity is initially followed by foreign equity issuance, but eventually lead to a higher level of domestic bond issues. Further, they found that macroeconomics stability is highly correlated with the choice of financing.
          Amalaha et al., (2007) examined the macroeconomic determinants of bank intermediation and explored its contribution to the growth of the Nigerian economy using secondary sourced time series data spanning from 1970 to 2004. The time series study based on the distributed lag method of co-integration (DL-ECM) and regression analysis found firm and colossal evidences suggesting that selected financial determinants as well as macroeconomic variables has indeed contributed to bank intermediation and economic growth. The study drew the conclusion that better bank intermediation has a distinct significant positive impact on economic growth. Demirguekunt and Maksimovic, (2000) investigated whether firms’ access to external financing to fund growth differs in market based and bank based financial systems. Using firm level data for forty countries, they computed the proportion of firms in each country, which rely on external finance and examine how that proportion differs across financial systems. They found that the use of external financing by firms is positively related to the development of both the predicted banking system and the securities markets in each country. However, in the sample they did not find evidence that variations in the development of the financial system that are unrelated to the legal system affect access to external finance. In particularly, they found no evidence that firms use external financing differently if they are in countries classified as bank based or market based, on the basis of the development of their banking sector relative to their securities markets. They also found that securities market and bank development have a different effect on the type of external finance firms obtain, particularly at relative low levels of financial development. In those countries where the legal contracting environment predicts a high level of development for securities markets, more firms grow at rates requiring long term external finance. They did not find the same effect for predicted bank development, differences in contracting environments that affect the relative development of the stock market and the banking system may have implications for which firms and which projects obtain financing.     
In contrast to the extensive work on bank credit per se, and despite its importance in industrial sector and the extent of theoretical work, no major academic research project has yet looked at links to commercial bank credit and the industrial sector on a systematic, empirical, country specific basis. Also, different cases studies and methodologies tend to produce different results. Most of the studies used cross sectional data on countries that may be diverse, raising the possibility that the empirical findings could be distorted by heterogeneity biases affecting both bank credit and industrial development. In Nigeria particularly, no study has gone further to analyze the impact of bank credit on industrial sector development, specifically for the periods under review. This research will fill the gap that has been over looked by the literature on country specific basis. Hence, the fact that there are no unlimited empirical evidences on the subject in Nigeria is an important motivation for this very work at the moment.
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