Monetary Policy and Corporate Credit Conditions: Accounting for Firm-Specific Characteristics

This paper examines the relationship between UK firms’ choices over bank-based and market-based finance under different monetary conditions. The evolving financial environment facing the corporate sector provides many nonbank external finance options available as an alternative to bank finance. The paper shows that firms distributed according to their type (asset size, rating etc) have differential access to bank lending. As monetary policy tightens weak firms are excluded from bank credit and will seek alternative external funding, such as non-bank external finance or trade credit. We intend to look at the external finance 'mix' using a panel of 16,000 UK firm records taken from the FAME database for the years 1990 through 1999. The paper provides evidence consistent with a credit channel by demonstrating that there are distributional implications from tightening monetary policy. Non-bank forms of external finance are close substitutes for certain types of firms who switch into these types of finance from bank lending.