Research by Raghuram Rajan
According to new research, small banks have a comparative advantage in the arena of small-business lending because they are better able to collect and act on so-called “soft information” than large banks.
Due to changes in technology and the ongoing consolidation of the commercial banking industry over the past thirty years, the relationship between banks and borrowers has been growing more distant and impersonal. These changes raise questions not only about whether large banks will behave differently than the smaller banks they are displacing, but about the differences between large and small organizations as a whole.
One reason to believe that large organizations may behave differently than small organizations is that they may have different abilities to process hard and soft information. Hard information, such as audited earnings, is easily captured on paper. Soft information-intangible factors such as a potential client’s strength of character-is difficult to communicate.
The study “Does Function Follow Organizational Form? Evidence From the Lending Practices of Large and Small Banks,” by Raghuram Rajan, a professor at the University of Chicago Graduate School of Business, Allen N. Berger and Nathan H. Miller of the Board of Governors of the Federal Reserve System, Mitchell A. Peterson of Northwestern University, and Jeremy C. Stein of Harvard University examines whether large banks do as well as small banks in small-business lending, an activity that relies heavily on collecting soft information about borrowers.