2022-14 | July 2022
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We develop a simple model of relationship lending where lenders have incentives for evergreening loans by offering better terms to less productive and more indebted firms. We detect such lending behavior using loan-level supervisory data for the United States. Low-capitalized banks systematically distort firms’ risk assessments to window-dress their balance sheets. To avoid further reductions in their capital ratios, such banks extend relatively more credit to underreported borrowers. We incorporate the theoretical mechanism into a dynamic heterogeneous-firm model to show that evergreening affects aggregate outcomes, resulting in lower interest rates, higher levels of debt, and lower productivity.
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Faria-e-Castro, Miguel, Pascal Paul, and Juan M. Sánchez. 2022. "Evergreening," Federal Reserve Bank of San Francisco Working Paper 2022-14. Available at https://doi.org/10.24148/wp2022-14