Monetary policy,bank competition and regional credit cycles: Evidence from a quasi-natural experiment

This paper examines how competition in the banking sector affects the transmission of monetary policy and the variation of credit expansion across regions in the United States. Using the U.S. branching deregulation between 1994 to 2008 as an exogenous change in banks’ competition, we analyze how bank competition affects monetary policy transmission through the bank lending channel. The results show that competition strengthens the impact of monetary policy on bank loan supply. We then show that states with a more deregulated banking sector were more affected by monetary conditions in the years leading to the Great Recession. Specifically, the effect of loose monetary conditions on the expansion of households’ debt was stronger in states that had fewer bank branching restrictions. The results suggest that variations in the level of bank competition may have amplified regional asymmetries in the years leading to the Great Recession.     

Monetary policy transmission in vector autoregressions: A new approach using central bank communication

In this paper, we study the role played by central bank communication in monetary policy transmission. We employ the Swiss Economic Institute’s Monetary Policy Communicator to measure the future stance of the European Central Bank’s monetary policy. Our results indicate, first, that communication has an influence on inflation (expectations) similar to that of actual target rate changes. Communication also plays a noticeable role in the transmission of monetary policy to output. Consequently, future work on monetary policy transmission should incorporate both a short-term interest rate and a communication indicator. A second finding is that the monetary policy transmission mechanism changed during the financial crisis as the overall effect of monetary policy on (expected) inflation and output is weaker and of shorter duration during this period compared to the overall sample period.     

Foreign entry and bank competition

Foreign entry and bank competition are modeled as the interaction between asymmetrically informed principals: The entrant uses collateral as a screening device to contest the incumbent's informational advantage. Both better information ex ante and stronger legal protection ex post are shown to facilitate the entry of low-cost outside competitors into credit markets. The entrant's success in gaining borrowers of higher quality by offering cheaper loans increases with its efficiency (cost) advantage. This paper accounts for evidence suggesting that foreign banks tend to lend more to large firms thereby neglecting small and medium enterprises. The results also explain why this observed bias is stronger in emerging markets.     

Foreign bank entry and bank competition: Cross-country heterogeneity

This study investigates the impact of foreign bank entry on bank competition in the host countries. Using data for 148 countries over 1987–2015, I find that although on average an increase in the number of foreign banks is associated with more competition in the host country, competition increases in developed but decreases in developing countries. Stringent capital requirements, higher market entry barriers, and effective credit information sharing can mitigate the impact of foreign bank entry, while better supervision and external governance strengthen the link between foreign bank presence and competition. The findings justify the regulations on bank capital adequacy and call for an effective credit information sharing mechanism.     

Credit risk transfer and bank competition

We present a banking model with imperfect competition in which borrowers’ access to credit is improved when banks are able to transfer credit risks. However, the market for credit risk transfer (CRT) works smoothly only if the quality of loans is public information. If the quality of loans is private information, banks have an incentive to grant unprofitable loans that are then transferred to other parties, leading to an increase in aggregate risk. Higher competition increases welfare in the presence of CRT with public information. In contrast, welfare eventually decreases for high levels of competition in the presence CRT with private information due to the expansion of unprofitable loans. This finding coincides with the decrease in credit quality observed during the late years of the credit boom preceding the subprime crisis.     

Bank competition and the cost of bank loans

I comprehensively study the effect of bank competition on the cost of bank loans using U.S. bank loan data from 1995 to 2010. The cost of bank loans is analyzed with regard to loan spreads and covenant intensity. I show that loan spreads and covenant intensity are negatively related to bank competition. I also find that non-investment grade and financially constrained firms benefit more from bank competition than investment grade and financially unconstrained firms do. Lenders with low market power are more willing to reduce loan price than lenders with high market power in competitive lending markets. The results suggest that lenders give favorable loan terms to borrowers in competitive loan markets.     

On the optimality of bank competition policy

This study examines whether the effect of market structure on financial stability is persistent, subject to current regulation and supervision policies. The methodology of Sala-I-Martin (1997) is employed over a sample of 2450 banks operating within the EU-27 during the period 2003–2010. The results show a potential trade-off between market power and soundness, and how possible it is to regulate this trade-off above 21% markups. Financial stability appears more pronounced in markets of less concentration, where policies lean towards limited restrictions on non-interest income, official intervention in bank management and book transparency. Regulation and competition can act as substitute or complementary policies vis-à-vis a more stable financial system with less competition distortions.     

Information verifiability, bank organization, bank competition and bank-borrower relationships

This paper investigates whether the benefits of bank-borrower relationships differ depending on three factors identified in the theoretical literature: verifiability of information, bank size and complexity, and bank competition. We extend the current literature by analyzing how relationship lending affects loan contract terms and credit availability in an empirical model that simultaneously accounts for all three of these factors. Based on Japanese survey data we find evidence that the benefits from stronger bank-borrower relationships in terms of credit availability are limited to smaller banks. However, when the benefits are measured as improved credit terms, we find little additional benefit, and in some cases increased cost, from stronger relationships for opaque borrowers and for borrowers who get funding from small banks. These latter findings suggest the possibility that relationship borrowers may suffer from capture effects.     

Monetary policy,bank lending and corporate investment

The purpose of this study is to shed light on the chain of causality from macroeconomic financial policy to the microeconomic investment function. Concretely, we aim to provide an in-depth analysis of the relationships between the monetary policy of central banks, the loan policy of commercial banks, and the investment behavior of firms. We focus on countries that conduct their monetary policy under the inflation-targeting framework. Our empirical analysis with data from Germany, Switzerland and Thailand provides several new insights. First, after controlling for the US monetary policy, the monetary policy in Germany and Thailand appears to influence the banks' lending rate in the short run (i.e. within two months), whereas the monetary policy in Switzerland seems to be ineffective at influencing the banks' lending rate in the short run. Second, our results show that the banks' lending rate has a negative effect on their loans and that this negative effect is weakened by their growth opportunities. Third, we find that the supply of bank loans plays a more pivotal role in determining firms' investment than the lending rate. Last but not least, we document that neither the lending rate nor the loan-to-assets ratio moderates the sensitivity of the firms' investment to growth opportunities.     

Local product market competition and bank loans

We investigate the influences of local product market competition on the cost of private debt. Our evidence suggests that the cost of bank loans is significantly higher for firms headquartered in states with greater local product market competition measured by the Herfindahl-Hirschman Index for resident industries. To establish causality, we examine the recognition of the Inevitable Disclosure Doctrine and firm relocations to identify exogenous shocks to local product market competition. We find that the cost of bank loans is lower for firms facing less intense local product market competition after the adoption of IDD and higher for firms relocated to states with more competitive product markets. The results imply that banks value the characteristics of a firm's local product market when approving loan contracts.     

Elections,political competition and bank failure

We exploit exogenous variation in the scheduling of gubernatorial elections to study the timing of bank failure in the US. Using hazard analysis, we show that bank failure is about 45% less likely in the year leading up to an election. Political control (i.e., lack of competition) can explain all of this average election year fall in the hazard rate. In particular, we show that the reduction in hazard rate doubles in magnitude for banks operating in states where the governor has simultaneous control of the upper and lower houses of the state legislature (i.e., complete control) heading into an election.     

Monetary policy under alternative bank market structures

The purpose of this paper is to derive and compare the short-run effects of monetary policy under both perfectly and imperfectly competitive banking markets. Within the context of a general equilibrium framework which emphasizes the demands for and supplies of financial assets, it is demonstrated that the structure of banking markets can have a bearing on the appropriate choice of policy targets and instruments. Specifically, the Federal Funds rate is shown to be a potentially ineffective target/instrument for policy under a competitive banking system, although it can be used to produce conventional short-run effects when banking markets are imperfect. In contrast, the level of currency and unborrowed reserves can be utilized as an effective target/instrument under either form of bank market structure.     

Assessing bank competition for consumer loans

Based on frontier analysis, we derive inferences of bank consumer loan competition from estimating a revenue-cost ‘competition efficiency’ (CE) frontier. The competitiveness of the $400 billion U.S. bank consumer loan market is then assessed by comparing results from our frontier CE measure with other competition measures, such as HHI, Lerner Index, and H-Statistic. These measures are weakly related to one another and only half of them identify banks with the highest loan price as also being the least competitive. This is the opposite of what is expected. Using the frontier CE measure, the most and least competitive banks are not located in the most populous states and the largest banks are underrepresented. Overall, the HHI should not be used to indicate competition.     

Information reusability,competition and bank asset quality

This paper explains the recent decline m bank asset quality using the notion of information reusability. Banks are viewed as information processors; they exist because of their advantage in extracting the surplus associated with the reusability of borrower-specific information. It is shown that a bank's incentive to screen loan applicants, and hence maintain the quality of its assets, depends on the surplus this screening can produce, which in turn depends on information reusability. Two recent changes in banks' operating environment are increased competitition and greater temporal volatility in borrower credit risks. The former has directly reduced banks' informational surplus while the latter has impaired information reusability. Hence screening expenditures have been reduced and the diminution of screening has lowered the quality of bank assets. It is also shown that an increase in deposit insurance premia has an effect similar to that of narrowing interest spreads and therefore will result in reduced asset screening and impaired asset quality.     

The impact of competition on bank orientation

How do banks react to increased competition? Recent banking theory significantly disagrees regarding the impact of competition on bank orientation—i.e., the choice of relationship-based versus transactional banking. We empirically investigate the impact of interbank competition on bank branch orientation. We employ a unique data set containing detailed information on bank–firm relationships. We find that bank branches facing stiff local competition engage considerably more in relationship-based lending. Our results illustrate that competition and relationships are not necessarily inimical.     

Macroprudential policies and bank competition: International bank-level evidence

The paper analyzes the effect of changes in eight types of bank-oriented macroprudential policies on bank competition and stability. Using a bank-level database of a maximum of 2511 listed banks from 52 countries, I find that a tightening in bank-oriented macroprudential policies on average increases both bank competition and stability. However, there are differences across policies and countries. Loan supply and liquidity-based policies increase bank competition whereas capital and tax-based policies reduce bank competition. Tighter legal restrictions on entry and activity in a country reduce the positive (increase the negative) effect of macroprudential policies on bank competition. In terms of policy implications, I identify a sub-set of especially useful macroprudential policies that increase not only financial stability but also bank competition.     

Monetary policy and bank risk-taking: Evidence from the corporate loan market

Our study of the corporate loan pricing policies of U.S. banks over the past two decades shows that loan spreads for riskier firms become relatively lower during periods of monetary policy easing compared to tightening. This effect is driven by banks with greater risk appetite, measured from individual banks’ answers to the Senior Loan Officers Opinion Survey. Our results hold with different fixed effects that account for time-varying observed and unobserved heterogeneity of credit demand and bank lending conditions that are not directly related to monetary policy. Together with our survey-based measure of bank risk appetite, we provide compelling evidence of the presence of a bank risk-taking channel of monetary policy in the U.S.     

Monetary transmission via the administered interest rates channel

This paper examines the dynamics of administered interest rate changes in response to changes in the benchmark money market rate in Singapore. Our results show that the administered rates’ adjustment speed differs across both financial institutions and financial products. The financial institutions’ administered (lending and deposit) rates, moreover, are more rigid when they are below their equilibrium level than when they are above. Our finding, hence, implies that the speed of monetary transmission is not uniform across all sectors of the economy and that a tightening monetary policy takes a longer time to impact the economy than an expansionary monetary policy.     

Evidence on the effects of bank competition on firm borrowing and investment

This paper presents evidence on the financial and real effects of bank competition using a large panel of privately held firms. I trace the firm-level impact of the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994, which increased the competitiveness of U.S. banking markets. Following the deregulation, newly formed firms used significantly less external debt, were smaller, and realized higher returns on assets, consistent with their investing less due to greater financial constraints. These effects diminish as firms age, ultimately reversing sign. The differential impact that banking market reforms may have on newer and more established firms is underscored.