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Small Business Lending and Household Credit Shocks

This paper studies how changes in household credit aﬀect small business lending. First, we empirically investigate the eﬀect of an exogenous increase in household credit on small business credit by exploiting the 1997 liberalization of home equity lending in Texas. We ﬁnd that the relaxation of borrowing constraints on household lending crowds out business lending, as small business loan growth declines by roughly 20 percentage points following the liberalization. However, the negative eﬀect is weaker in counties that experienced strong house price growth, providing evidence for a collateral eﬀect working through house prices. Then, we build a closed economy model with borrowing constraints that diﬀerentiates between household and business lending and study the interaction between the two types of lending. We show that an expansion in household credit leads to a decline in ﬁrm borrowing. Even though there is a positive collateral eﬀect, the crowding out eﬀect dominates in both the theoretical model and the empirical analysis.