This paper investigates local versus foreign bank lead loan syndications to test the impact of two opposing theories: the home market advantage gained by closer geographical proximity and soft information from existing banking relationships, versus the ‘hold-up’ problem where banks use their soft information advantage and offer their clients more expensive, less attractive facilities.

Asymmetric information between the borrower and lender is the source of adverse selection and moral hazard in modern banking (Diamond, 1984). The classical theories suggest that reduced asymmetric information will benefit borrowers. For example, lower asymmetric information can reduce lenders’ exposure to credit risk, as well as reduce monitoring costs, which in turn leads to more favourable loan terms. Bharath et al. (2011) show that borrowers with an existing bank relationship pay 10 to 17 basis points less on their loans, and have fewer collateral requirements. They attribute these effects to reduced asymmetric information due to the soft information obtained from the borrower’s existing relationship. Berger and Udell (1995) also report that previous banking relationships strongly reduce interest charges as well as collateral requirements. Petersen and Rajan (1994) and Cole (1998) both find existing relationships increase the availability of credit to borrowers.1

Geographical distance may also reduce asymmetric information. Sufi (2007) and Knyazeva and Knyazeva (2012) argue that distance can be used as proxy for the bank’s ability to acquire soft information, and so banks geographically closer to the borrower tend to offer lower loan spreads and less restrictive non-price terms. The closer the distance, the more likely banks are able to gather private information about the borrower. Distance can also lower the costs of monitoring and verifying soft information (Berger, Miller, Petersen, Rajan & Stein, 2005; Bushman & Wittenberg-Moerman, 2012; Dass & Massa, 2011; Petersen & Rajan, 2002; Sufi, 2007). Overall, these studies suggest that existing lending relationships and closer geographical distance between the borrower and lender translate into more favourable loan terms.