Monitoring and incentives under multiple-bank lending: The role of collusive threats

We examine interactions between multiple bank-loan officer-borrower hierarchies. Possibility of collusion between the borrower and the loan officer(s) in charge of monitoring shapes incentives for the loan officers. When ‘borrower quality is low’, collusive threats induce over-monitoring in a collusion-free equilibrium, whereas for high borrower quality, monitoring is at its non-delegation level—an outcome akin to vertical integration. Under multiple-bank lending, delegation contracts may solve the free-riding problem in monitoring, and lead to more intense monitoring relative to single-bank lending. This is because collusive threats make monitoring efforts strategic complements because of a novel ‘rent-jamming’ effect—a hitherto unexplored effect of multiple-bank lending. We further show that a bank may decide not to employ a monitor and free-ride on the information gathered by the loan officer of the other bank, which in turn provides a new rationale for syndicated lending based on collusive threats. Moreover, consistent with recent empirical evidence, our analysis implies that bank monitoring behaves counter-cyclically.