Borrowers Under Water! Rare Disasters, Regional Banks, and Recovery Lending

We test if and how banks propagate disaster risk in the form of a natural catastrophe striking its customers: the 2013 Elbe flood in Germany. We identify shocked banks based on bank-firm relationships gathered for approximately a million firms and test for the existence of a corporate credit composition channel. Banks with relationships to flooded firms lend 38% more than banks without such customers after the flood. This lending hike is associated with higher profitability and reduced risk. Our results suggest that local banks are an effective mechanism to mitigate rare disaster shocks faced especially by small and medium-sized enterprises (SMEs).