Relationship banking: The borrower’s incentives channel

We contribute to the relationship banking literature by uncovering the impact of a prior banking relationship on borrower's incentives to avoid default. As an identification strategy we exploit a proprietary dataset comprising 149,230 mortgage loans tracked monthly over a two-year period in a unique institutional setting that allows us to isolate the influence of borrower's incentives. Our findings indicate that a pre-existing relationship diminishes borrower's default risk by approximately 4%, exclusively attributable to the value of the relationship for the borrowers. This effect persists even during the notable surge in loan defaults during the COVID-19 pandemic. Our results also show that the impact of preexisting banking relationships on avoiding default is stronger for wealthier, more religious, and male borrowers.