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What is the moral hazard in loan syndication?

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Mandated lead arrangers are commonly the borrower’s main relationship lender.  Such relationship lending has a significant impact on loan terms and moral hazard towards syndicate participantsBank monitoring and proprietary information are central to relationship lending.

It is generally recognized that syndication increases moral hazard by decreasing the incentive of lead arrangers to monitor borrowers.  On the other hand, an increased number of participants helps to reduce the moral hazard in terms information asymmetry (monitoring and due diligence) through their increased monitoring of borrowers.

[Early signals of borrower default] are less important for lenders that have a borrower relationship because these lenders have customer-specific information that facilitates monitoring.

Where lead arrangers have an established lending relationship with the borrower, the incremental monitoring cost will be lower and make moral hazard less serious within a syndicate.  Relationship lenders also act as liquidity insurers in situations of liquidity problems of the borrower.  Having well-informed lenders is most valuable for borrowers in times of tight market liquidity for their financing needs.

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