It is examined whether differences in legal protection affect the size, maturity, and interest rate spread on loans to borrowers in 48 countries. Results show that banks respond to poor enforceability of contracts by reducing loan amounts, shortening loan maturities, and increasing loan spreads. These effects are both statistically significant and economically large. While stronger creditor rights reduce spreads, they do not seem to matter for loan size and maturity. Overall, we show that variation in enforceability of contracts matters a great deal more to how loans are structured and how they are priced. The extent to which property rights are protected in a country is an important consideration in determining what loans are offered to firms, how these loans are structured, and how they are priced. Property rights protection affects a lender’s incentives to monitor and its ability to recontract. Declining credit quality often results in lenders raising interest rates, demanding more collateral, shortening loan maturity, and further restricting future activities. This re contracting is costly when property rights are poorly enforced.

Poor enforcement lowers recovery rates and increases the time spent in repossessing collateral following default. In addition to enforcement, the legal rights that lenders have in reorganization and liquidation procedures are also important. Differences in creditor rights matter to loan contracting because laws determine who controls the insolvency process and who has rights to the property of a bankrupt firm. How do differences in creditor rights and contract enforceability affect the amount banks lend to firms, the maturity of the loans they make, and the interest rate spreads they charge? Are laws and enforcement equally important to the loan contracting process? Bhattacharya and Daouk (2002, 2005) argue that it is the enforcement, not the existence, of laws that matters. Qian and Strahan (2007) suggest that it is creditor rights, not the protection of property rights.