Toward a Theory of Bank Loan Commitments

The characteristics of fixed and variable rate bank loan commitments are analyzed in a contingent-claims framework, and valuation expressions are derived for these commitments. The valuation expressions are used to present estimates of the impact of interest rate uncertainty on the liability assumed by a bank issuing loan commitments. Finally, a simple, two-period, asymmetric information model is employed to explain the recent trend among bankers to substitute variable rate commitments for their fixed rate counterparts.