“Empty Creditors: How Public Credit Guarantees Impair Loan Restructuring“
by Cem Demiroğlu
Koç University
Place: MA-330
Abstract
Public credit guarantees (PCGs) are increasingly used worldwide to stimulate lending during economic downturns, yet their impact on loan restructuring remains unexplored. This paper shows that PCGs can transform banks into “empty creditors” with reduced loss exposure, leading to inefficient defaults. Using comprehensive loan-level data from Türkiye’s 2017 PCG program—the world’s largest at the time—we find that, conditional on distress, PCG loans exhibit substantially higher default rates and lower restructuring rates than non-PCG loans, even when comparing loans to the same firm in the same quarter. The effect strengthens with higher guarantee coverage and weakens as banks approach portfolio-level loss caps, demonstrating moral hazard as the underlying mechanism. Information frictions do not appear to drive these results; the effect is strongest for the most transparent borrowers. Crucially, a policy reform mandating restructuring attempts before reimbursement and introducing annual reimbursement caps eliminated nearly half of the adverse PCG effect, confirming distorted incentives are the primary driver. This restructuring distortion generates substantial real costs: sharp declines in firm revenues, investment, and employment, and severed supplier-customer networks. Our findings underscore the need to balance credit expansion with incentive-aligned restructuring mechanisms in PCG program design.
Bio
Cem Demiroğlu is a Professor of Finance at Koç University and a member of the Turkish President’s Council of Economic Advisors. He serves on the Board of Borsa İstanbul and previously was founding president of Türk Reasürans A.Ş. He is also a founding member of Enstitü Sosyal, an independent policy think tank focused on education, social and economic reform.
His research lies at the intersection of corporate finance and financial intermediation, with a focus on information asymmetries, incentive conflicts, and the design of financial contracts. His recent work focuses on the impact of government interventions in credit markets. His articles have been published in leading academic journals such as the Journal of Finance, Journal of Financial Economics, Review of Financial Studies, and Management Science. He holds a Ph.D. in Finance from the University of Florida and has held visiting positions at the London Business School, University of Florida, and Bocconi University.
