This paper analyzes the characteristics and behavior of discouraged borrowers. First, we show that, in the decision to apply for a bank loan or to be discouraged, firms trade-off their expected return on investment with the cost of borrowing (interest rate, opportunity cost, application cost) and their rejection likelihood. Second, we predict the approval likelihood of discouraged borrowers and find that a significant fraction would be able to get a bank loan if they would actually apply. Third, we exploit an exogenous legal change in Belgium that reduced firms’ loan application costs and find that this significantly reduced the probability of being discouraged for firms in Belgium relative to similar firms in Germany and France. Using this exogenous change in discouragement, we document strong negative effects of discouragement on investment, employment, and sales.

While many theories of accounts payable and receivable are related to firm performance, there has not been a direct test whether firms actively use them to manage their growth. We argue that it is not just the accounts payable but also the accounts receivable that matter. While the former help to alleviate imperfections in the financial market, the latter do so in the product market. Using over 2.5 million observations for 600.000 firms in 8 euro area countries in the period 1993–2009, we show that firms use the trade credit channel to manage growth. In countries where the trade credit channel is more present, the marginal impact is lower, but the total impact is still higher. Further, firms that are more vulnerable to financial market imperfections, rely more on the trade credit channel to manage growth. Finally, we show that also the overall conditions of the financial market matter for the importance of the trade credit channel for growth.

This paper provides evidence on the strategic lending decisions made by banks facing a negative funding shock. Using bank–firm level credit data, we show that banks reallocate credit within their loan portfolio in at least three different ways. First, banks reallocate to sectors where they have a high market share. Second, they also reallocate to sectors in which they are more specialized. Third, they reallocate credit toward low-risk firms. These reallocation effects are economically large. A standard deviation increase in sector market share, sector specialization, or firm soundness reduces the transmission of the funding shock to credit supply by 22%, 8%, and 10%, respectively.

Current empirical methods to identify and assess the impact of bank credit supply shocks rely strictly on multi-bank firms and ignore firms borrowing from only one bank. Yet, these single-bank firms are often the majority of firms in an economy and most prone to credit supply shocks. We propose and underpin an alternative demand control (using industry–location–size–time fixed effects) that allows identifying time-varying cross-sectional bank credit supply shocks using both single- and multi-bank firms. Using matched bank-firm credit data from Belgium, we show that firms borrowing from banks with negative credit supply shocks exhibit lower financial debt growth, asset growth, investments, and operating margin growth. Positive credit supply shocks are associated with bank risk-taking behaviour at the extensive margin. Importantly, to capture these effects it is crucial to include the single-bank firms when identifying the bank credit supply shocks.

We contribute to the financial constraints literature and the investment-cash flow sensitivity debate by defining a new and simple index of firm level financial constraints for unquoted European SMEs. Firms that are constrained according to our index pay higher interest rates on their debt. An exogenous financial supply shock reveals that our index also captures financial constraints in terms of the volume of credit. Our index outperforms existing indices in capturing financial constraints of unquoted SMEs. Finally, employing our proposed index to identify financially constrained firms and using firm-level employment growth as a control for investment opportunities, we find that constrained firms display the highest investment-cash flow sensitivities.