Trade credit, collateral liquidation and borrowing constraints

The paper investigates the determinants of trade credit and its interactions with borrowing constraints and the input combination of the firm, within an incomplete contract setting in which firms use a two-input technology and collateralised credit contracts. Assuming that the supplier is better able to extract value from existing assets and that she has an information advantage relative to other creditors, the paper derives the following predictions: (1) financially unconstrained firms (with unused bank credit lines) take trade credit for a liquidation motive; (2) the reliance on trade credit does not depend on the degree of credit rationing, if inputs are liquid enough; (3) firms buying goods make more purchases on account than firms buying services, while suppliers of services offer more trade credit than suppliers of standardised goods; (4) suppliers lend inputs to their customers but not cash; (5) larger reliance on trade credit is associated with a more intensive use of tangible inputs; (6) better creditor protection decreases both the use of trade credit and input tangibility.