The International Bank Lending Channel of Monetary Policy Rates and QE: Credit Supply, Reach-for-Yield, and Real Effects

Using the universe of business loans in Mexico matched to firm and bank balance sheets, this paper shows that each foreign monetary policy moves local credit supply mainly through banks headquartered in that jurisdiction, with real effects on firms’ investment, employment and survival that are stronger for policy rates than for quantitative easing, and with the extra credit flowing disproportionately to borrowers who were already paying high rates and who then default more. The data are the Mexican supervisor’s monthly reports on every new and continuing commercial loan, spanning June 2001 to December 2015, with no minimum loan size, giving 8,268,794 firm-bank-month observations for 169,576 firms and 38 banks, and including loan rates, maturity, collateral and arrears – loan rates being “absent in most credit registers around the world” – merged with firm balance sheets and monthly bank balance sheets. Mexico is chosen because US and European banks’ Mexican subsidiaries account for 58 percent of all commercial bank credit there, so policy shocks exogenous to Mexico can be traced through the lenders they hit; the authors stress the general relevance by noting that foreign banks hold “around 50 percent of the market share in terms of loans, deposits and profits” in emerging and developing countries. Identification stacks firmbank, stateindustryperiod and firmmonth fixed effects, and the coefficients barely move between the last two despite an R-squared rise of about 43 percentage points, which the authors read as evidence that firm fundamentals are strongly exogenous to bank shocks. The headline loan-level estimate is that a one-standard-deviation reduction in foreign policy rates raises foreign banks’ credit volume in Mexico by about 2.1 percent, lengthens maturity by 6.7 percent, raises the probability of default over the next year by 9.8 percent, and raises collateral by 5.7 percent – the last plausibly a valuation effect, with the main results holding when collateral is controlled for. Country by country, a one-standard-deviation cut in the fed funds rate raises US banks’ loan volume by 6 percent against 4.8 and 2 percent for UK and euro-area banks under their own rates, while quantitative easing is weaker and narrower: Fed balance-sheet expansion raises US banks’ volume by 2.6 percent and Bank of England expansion raises volume by 2.1 percent, but euro-area QE “becomes statistically insignificant once we control for time-varying unobservables at the state and industry level.” Transmission is not instantaneous – effects are “generally strongest between 6 and 12 months” and weaken after 12 to 15 months. At the firm level, where bank switching is rare (only 9 percent of firms change their main bank year to year), a one-standard-deviation easing raises total bank credit by 1.5 percent, total liabilities by 1.2 percent, fixed assets by 0.5 percent and employment by 0.3 percent, and cuts firm exit due to loan defaults by 1 percent, while QE has no significant overall real effects. On risk-taking, easing raises high-yield borrowers’ loan volume by 5 percent against 1.3 percent for low-yield firms, lengthens their maturity by 10 percent against a negligible effect, and raises their default rate by 11.7 percent with “no significant impact for low-yield firms,” with a QE expansion raising it by 8.6 percent. The paper’s own summary of the two-sided implication is that core-country policy spills over “both in the foreign monetary softening part (with not only higher credit risk taken by foreign banks, but also higher liquidity risk stemming from higher foreign funding) and in the tightening part (with the negative associated local real effects in terms of lower firm total assets, net investment, employment and survival).” Scope conditions are stated rather than buried: the QE real-effects nulls may reflect low power given few post-QE annual observations, effects are stronger for firms with fewer than 50 employees and “inexistent for large firms” while Orbis over-represents large firms, and QE results are weaker the higher the home sovereign’s CDS.

Claudia Ruiz-Ortega | Macro Paper Warehouse

The International Bank Lending Channel of Monetary Policy Rates and QE: Credit Supply, Reach-for-Yield, and Real Effects