Legacy Lending Relationships and Credit Rationing: Evidence from the Paycheck Protection Program

TL;DR

This study investigates how existing lending relationships influenced credit allocation during the COVID-19 crisis, revealing initial reliance on legacy ties that diminished over time, highlighting trade-offs between rapid deployment and equitable access.

Contribution

It provides novel empirical evidence on the evolving role of legacy lending relationships in emergency credit allocation during a crisis, using a comprehensive dataset and rigorous matching techniques.

Findings

Early reliance on legacy ties increased funding likelihood for firms with prior SBA 7(a) relationships.

By June 2021, the advantage of legacy ties largely disappeared, indicating policy effects.

The study highlights a trade-off between speed of deployment and fairness in crisis credit policies.

Abstract

This article examines how legacy lending relationships shape the allocation of emergency credit under severe information frictions. Using a novel dataset linking Small Business Administration (SBA) loan records with Dun and Bradstreet microdata for over 26 million U.S. firms, I investigate whether prior participation in the SBA 7(a) program acted as a gateway to the Paycheck Protection Program (PPP). Employing entropy balancing to construct a strictly comparable counterfactual group, I document a distinct dynamic evolution in credit rationing. In the program's initial "panic phase" in April 2020, banks relied heavily on legacy ties as a screening technology: firms with prior 7(a) relationships were approximately 29 percentage points more likely to receive funding than observationally identical non-7(a) firms. By June 2021, however, this insider advantage had largely vanished, suggesting that policy adjustments and extended timelines eventually mitigated the initial intermediation frictions. These findings highlight a fundamental trade-off between speed and equity in crisis response. While leveraging existing credit rails accelerates deployment, it systematically excludes informationally opaque borrowers. I discuss policy implications for designing future digital infrastructure to decouple verification from historical lending relationships.