Asymmetric information and price competition in small business lending

This paper examines the relationship between bank lending rates and their cost of funds in New Zealand. Our results show that on average mortgage rates respond more quickly to changes in the cost of funds than base business lending rates. We also find an asymmetry in the initial (short-run) response of banks to changes in funding costs; in particular, our results show banks adjust mortgage rates downwards faster than upwards. The speed to which lending rates revert back to their equilibrium relationship with funding costs varies across the lending markets. We find the adjustment speed is faster when mortgage rates are below equilibrium, whereas it is slower when business lending rates are above long-run levels in relation to funding costs. Our analysis suggests that banks prefer the plain-vanilla type of lending such as mortgages in comparison to small business lending consistent with asymmetric information associated with business loans.     

The role of securitization in bank liquidity and funding management

This paper studies the role of securitization in bank management. I propose a new index of “bank loan portfolio liquidity” which can be thought of as a weighted average of the potential to securitize loans of a given type, where the weights reflect the composition of a bank loan portfolio. I use this new index to show that by allowing banks to convert illiquid loans into liquid funds, securitization reduces banks' holdings of liquid securities and increases their lending ability. Furthermore, securitization provides banks with an additional source of funding and makes bank lending less sensitive to cost of funds shocks. By extension, the securitization weakens the ability of the monetary authority to affect banks' lending activity but makes banks more susceptible to liquidity and funding crisis when the securitization market is shut down.     

“When the cat's away the mice will play”: Does regulation at home affect bank risk-taking abroad?

This paper provides the first empirical evidence that bank regulation is associated with cross-border spillover effects through the lending activities of large multinational banks. We analyze business lending by 155 banks to 9,613 firms in 1,976 different localities across 16 countries. We find that lower barriers to entry, tighter restrictions on bank activities, and to a lesser degree higher minimum capital requirements in domestic markets are associated with lower bank lending standards abroad. The effects are stronger when banks are less efficiently supervised at home, and are observed to exist independently from the impact of host-country regulation.     

What determines the composition of banks’ loan portfolios? Evidence from transition countries

This paper explores how bank characteristics and the institutional environment influence the composition of banks’ loan portfolios. We use a new and unique data set based on the EBRD Banking Environment and Performance Survey (BEPS), which was conducted for 220 banks in 20 transition countries. We show that bank ownership, bank size, and legal creditor protection are important determinants of the composition of banks’ loan portfolios. In particular, we find that foreign banks play an active role in mortgage lending. Moreover, banks that perceive pledge and mortgage laws to be of high quality choose to focus more on mortgage lending.     

Price Run-up in Housing Markets,Access to Bank Lending and House Prices in Korea

This paper studies the causal relationship between house prices and the access to bank lending in Kangnam, the hottest submarket in Seoul and four ‘cold’ markets which have shown relatively modest price increases. In response to the rapid escalation of house prices in Seoul, primarily in Kangnam in recent years, the Korean government implemented a number of policies to stabilize house prices. In particular, it introduced more strict limits on loan-to-value ratio and debt-to-income ratio as part of the mortgage loan qualification process in order to restrict the availability of bank lending for the housing market. The short-run influence of the bank lending on the apartment prices is clearly present in ‘cold’ markets, while it is not in Kangnam, the ‘hot’ market, even though the long-run influence is stronger in Kangnam than in the other markets. This result holds for the entire sample period (1999–2006) as well as for the subperiods before and after the introduction of lending restrictions in August, 2005. It also holds for Kangnam and Kangbuk for an extended period of 1988 to 2006. Our results suggest that in the short run the lending restriction may cause a disruption in untargeted housing markets while it has little influence on the apartment prices in the targeted market. We also find that banks have adjusted the bank lending in response to changes in the house prices in Kangnam as well as in the other markets.     

The Effects of Dynamic Changes in Bank Competition on the Supply of Small Business Credit

We study the effects of structural changes in banking markets on the supply of credit to small businesses. Specifically, we examine whether bank mergers and acquisitions (M & As) and entry have ``external' effects on small business loans by other banks in the same local markets. The results suggest modest positive external effects from these dynamic changes in competition, except that large banks may reduce small business lending in reaction to entry. We confirm bank size and age as important determinants of this lending, and show that the measured age effect does not appear to be driven by local market M & A activity.     

Intra- and inter-regional portfolio diversification strategies under regional market integration: Evidence from U.S. global banks

This study empirically assesses whether being a part of any specific region affects global banks' decisions on capital allocation across 20 developed and 44 emerging markets by using data on U.S. banks in the period from 2006 to 2015. We find that both the intra-bank lending of a parent bank to its affiliates abroad and the local lending of foreign affiliates decrease as internal lending to neighboring countries within a region increases. This finding provides evidence of the negative spillover or contagion effects from regional allocations on the capital allocation of global banks to individual economies. Our findings reflect that financial markets are integrated within the region, which suggests no intra-regional diversification benefits to the United States or to other global investors. Moreover, parent banks' intra-bank lending translates into foreign affiliates' local lending in the host country. A policy implication is that countries in the same region should strengthen coordinated efforts to ensure free intra-regional capital mobility and diversify country-specific risk. The findings of this study can help enhance our understanding of the relationships between financial markets interconnectedness and global banks' portfolio management strategies.     

Branching,lending and competition in Italian banking

With the liberalization of legal barriers to the opening of bank branches in 1990, both market structure and competitive conditions in Italy changed profoundly as banks expanded their branching networks. This paper provides novel empirical evidence on how changes of the branch network structure at the province level affect the performance and lending activity of banks across the period 1993–2011. In particular, we adopt two modes of analysis. The first focuses on the impact of diversification strategies on performance, lending and funding strategies at the province level. The second one examines how the increase of big banks' local presence affects single-market bank performance and lending strategies. Our results show that geographical diversification strategies can reduce performance, the adjusted Lerner Index of banks and lending activities, but increase the Lerner Index in deposit markets. Furthermore, we find that the expansion of branches by large-medium sized banks in concentrated markets can reduce the Lerner Index for the deposit market and the amount of loans offered by single-market banks.     

Global retail lending in the aftermath of the US financial crisis: Distinguishing between supply and demand effects

This paper examines the broader effects of the US financial crisis on global lending to retail customers. In particular we examine retail bank lending in Germany using a unique data set of German savings banks during the period 2006 through 2008 for which we have the universe of loan applications and loans granted. Our experimental setting allows us to distinguish between savings banks affected by the US financial crisis through their holdings in Landesbanken with substantial subprime exposure and unaffected savings banks. The data enable us to distinguish between demand and supply side effects of bank lending and find that the US financial crisis induced a contraction in the supply of retail lending in Germany. While demand for loans goes down, it is not substantially different for the affected and nonaffected banks. More important, we find evidence of a significant supply side effect in that the affected banks reject substantially more loan applications than nonaffected banks. This result is particularly strong for smaller and more liquidity-constrained banks as well as for mortgage as compared with consumer loans. We also find that bank-depositor relationships help mitigate these supply side effects.     

Beyond the Transaction: Banks and Mortgage Default of Low‐Income Homebuyers

We evaluate the effects of the lending institution and soft information on mortgage loan performance for low‐income homebuyers. We find that even after controlling for the propensity of a borrower to get a loan from a local bank based on observable characteristics, those who receive a loan from a local bank branch are significantly less likely to become delinquent or default than other bank or nonbank borrowers, consistent with an unobserved information effect. These effects are most pronounced for loans originated to borrowers with marginal credit, where soft information may have a stronger effect. These findings support previous research on information‐driven lending, and provide additional explanation for observed differences in mortgage loan performance between bank and nonbank lenders.     

Firm balance sheets and monetary policy transmission

The functioning of internal capital markets in financial conglomerates facilitates a novel identification strategy of the balance sheet channel of monetary policy. We look at small subsidiary banks that are affiliated with the same holding company but operate in different geographical areas. These banks face the same marginal cost of funds due to internal capital markets, but face different borrowers as they concentrate their lending with small local businesses. Exploring cross-sectional variation in local economic conditions across these subsidiaries, we investigate whether borrower creditworthiness influences the response of bank lending to monetary policy. Our results are consistent with a demand-driven transmission mechanism that works through firm balance sheets and is independent from the bank lending channel.     

Bank Branch Presence and Access to Credit in Low‐ to Moderate‐Income Neighborhoods

Banks specialize in lending to informationally opaque borrowers by collecting soft information about them. Some researchers claim that this process requires a physical presence in the market to lower information collection costs. This paper provides evidence in support of this argument in the mortgage market for low‐income borrowers whose access to credit is limited by their inadequate credit histories. Mortgage originations increase and interest spreads decline when there is a bank branch located in a low‐ to moderate‐income neighborhood.     

Measuring Integrated Market and Credit Risk in Bank Portfolios: An Application to a Set of Hypothetical Banks Operating in South Africa

The banking crises of the ‘90s emphasize the need to model the connections between financial environment volatility and the potential losses faced by financial institutions resulting from correlated market and credit risks. Due to the number of variables that must be modeled and the complexity of the relationships an analytical solution is not feasible. We present here a numerical solution based on a simulation model that explicitly links changes in the relevant variables that characterize the financial environment and the distribution of possible future bank capital ratios. This forward looking quantitative risk assessment methodology allows banks and regulators to identify potential risks before they materialize and make appropriate adjustments to bank portfolio credit qualities, sector and region concentrations, and capital ratios on a bank by bank basis. It also has the potential to be extended so as to assess the risks of correlated failures among a group of financial institutions (i.e., systemic risk analyses). This model was applied by the authors to the study of the risk profile of the largest South African Banks in the context of the Financial System Stability Assessment program undertaken by the IMF in 1999. In the current study, we apply the model to various hypothetical banks operating in the South African financial environment and assess the correlated market and credit risks associated with business lending, mortgage lending, asset and liability maturity matches, foreign lending and borrowing, and direct equity, real estate, and gold investments. It is shown to produce simulated financial environments (interest rates, exchange rates, equity indices, real estate price indices, commodity prices, and economic indicators) that match closely the assumed parameters, and generate reasonable credit transition probabilities and security prices. As expected, the credit quality and diversification characteristics of the loan portfolio, asset and liability maturity mismatches, and financial environment volatility, are shown to interact to determine bank risk levels. We find that the credit quality of a bank's loan portfolio is the most important risk factor. We also show the risk reduction benefits of diversifying the loan portfolio across various sectors and regions of the economy and the importance of accounting for volatility shocks that occur periodically in emerging economies. Banks with high credit risk and concentrated portfolios are shown to have a high risk of failure during periods of financial stress. Alternatively, banks with lower credit risk and broadly diversified loan portfolios across business and mortgage lending are unlikely to fail even during very volatile periods. Asset and liability maturity mismatches generally increase bank risk levels. However, because credit losses are positively correlated with interest rate increases, banks with high credit risk may reduce overall risk levels by holding liabilities with longer maturities than their assets. Risk assessment methodologies which measure market and credit risk separately do not capture these various interactions and thus misestimate overall risk levels.     

Cross-border banking,bank market structures and market power: Theory and cross-country evidence

Patterns in cross-border banking have changed since the global financial crisis. This may affect domestic bank market structures and macroeconomic stability in the longer term. In this study, I theoretically and empirically analyze how different modes of cross-border banking impact bank concentration and market power. I use a two-country general equilibrium model with heterogeneous banks developed by DeBlas and Russ (2010a) to grasp the effect of cross-border lending and foreign direct investment in the banking sector on bank market structures. The model suggests that both cross-border lending and bank FDI mitigate concentration. Empirical evidence from a panel dataset of 18 OECD countries supports the theoretical predictions: higher volumes of bank FDI and of cross-border lending coincide with lower Herfindahl-indexes in bank credit markets.     

Does market size structure affect competition? The case of small business lending

Market size structure refers to the distribution of shares of different size classes of local market participants, where the sizes are inclusive of assets both within and outside the local market. We apply this new measure of market structure in two empirical analyses of the US banking industry to address concerns regarding the effects of the consolidation in banking. Our quantity analysis of the likelihood that small businesses borrow from large versus small banks and our small business loan price analysis that includes market size structure as well as conventional measures yield very different findings from most of the literature on bank size and small business lending. Our results do not suggest a significant net advantage or disadvantage for large banks in small business lending overall, or in lending to informationally opaque small businesses in particular. We argue that the prior research that excluded market size structure may be misleading and offer some likely explanations of why our results differ.     

Bank Consolidation and Small Business Lending: The Role of Community Banks

This paper examines how bank consolidation activity affected small business lending in local U.S. banking markets during two 3-year study periods, focussing on the role played by community banks in the process. During the 1994–1997 period, we find that consolidation activity involving big banks is associated with lower loan growth, whereas community bank consolidations and a greater presence of community banks in the market are associated with higher loan growth. During the 1997–2000 period, consolidation activity is either unrelated to small business loan growth or is associated with higher loan growth. In both study periods we find that, net of organization reclassifications due to consolidation or asset growth, the share of small business lending funded by community banks rose, particularly in markets undergoing consolidation.     

Bond market development and bank stability: Evidence from emerging markets

We investigate how bond market development shapes banks’ risk taking in terms of portfolio structure, liquidity risk, and overall bank risk. Exploiting a bank-level database of 26 emerging markets, we find that larger bond markets are associated with stronger bank liquidity positions, lower portfolio risk of banks, and higher overall stability of banks. The effect of bond market development on bank risk taking remains robust across different levels of bank size and capital sufficiency. Overall, we find new evidence of a complementary relationship between bond market development and bank soundness.     

Do Savings Associations Have a Special Commitment to Housing?

In this paper, we investigate whether elimination of the savings association charter might reduce lending to nontraditional mortgage borrowers. We present a theoretical model of lender portfolio choice, in which nontraditional lenders have some market power and traditional lenders are price takers in the mortgage market. The comparative statics indicate differences between nontraditional and traditional lenders in terms of their asset allocation responses to changes in borrower income and house prices. Empirical tests indicate the absence of such differences between savings associations and commercial banks, suggesting that elimination of the savings association charter would not impair lending to nontraditional mortgage borrowers.     

Lending competition and credit availability for new firms: Empirical study with the price cost margin in regional loan markets

In this paper, I present statistical evidence of the impact of lending competition on credit availability for new firms. A discrete-time duration analysis with respect to the years from the start-up to the first loan approval by a commercial bank or a cooperative bank, which is collected from survey data in Japan, shows that the higher price cost margin (PCM) of banks, which reflects the existence of a quasi-rent for a bank, improves the credit availability for younger firms. Additional analysis to detect the regional determinants of the PCM of banks shows that the share of larger banks in each local credit market has a negative and significant impact on the PCM. In light of the existing empirical finding that smaller banks are more likely to provide relationship banking, these findings provide indirect evidence for the hypothesis that the intensity of relationship banking in each local credit market increases the PCM and this encourages banks to extend a loan to new firms so that they can pre-empt the opportunity to establish lending relationships that are expected to yield such quasi-rents.     

The international transmission of monetary policy

This paper presents the novel results from an internationally coordinated project by the International Banking Research Network (IBRN) on the cross-border transmission of conventional and unconventional monetary policy through banks. Teams from seventeen countries use confidential micro-banking data for the years 2000 through 2015 to explore the international transmission of monetary policies of the United States, euro area, Japan, and United Kingdom. Two other studies use international data with different degrees of granularity. International spillovers into lending to the private sector do occur, especially for US policies, and bank-specific heterogeneity influences the magnitudes of transmission. The effects are supportive of the international bank lending channel and the portfolio channel of monetary policy transmission. They also show that the frictions that banks face matter; in particular, foreign currency funding and hedging considerations can be a key source of heterogeneity. The forms of bank balance sheet heterogeneity that differentiate spillovers across banks are not uniform across countries. International spillovers into lending can be large for some banks, even while the average international spillovers of policies into nonbank lending generally are not large.