The stylized fact of co-movement of lending and economic activity
has been widely interpreted as evidence of a destabilizing feedback mechanism
between the banking and real sectors, suggesting the special role of credit supply
in amplifying financial and macroeconomic instability. Indeed, this
“procyclicality” view significantly influences bank regulations internationally.
Under the Basel III, the countercyclical capital buffer is exclusively designed to
dampen the volatility of credit supply over the business cycle.
The strong co-movement of lending and economic activity,
however, is insufficient to confirm the existence of the procyclicality, given that
both demand and supply of loans decline during economic downturns. If loan
supply does not play a causal role, then any measure to strengthen lending
capacity of banks would be ineffective in addressing this procyclicality issue.
The literature, however, provides limited, otherwise inexistent,
cross-country evidence to answer these fundamental questions. This research gap
calls into question the sufficiency of international evidence to assess the
effectiveness of the new capital measure, and more broadly, the regulatory reform.
This cross-country econometric study covering 39 economies for the period 1990–
2009 examines these fundamental issues in detail. There are three main findings
and policy implications.
For banking stability, a significant procyclical pattern of loan
supply exists, and such pattern is negatively associated with bank capital. These
findings together support the view that the countercyclical capital buffers of Basel
III could be effective tools for dampening loan volatility over the business cycle.
For the regulatory reform, there is prevalent evidence that capital and liquidity are
determinants of loan supply. This finding bears out the main Basel III argument
that stronger capital and liquidity could strengthen the resilience of the global
banking sector to macroeconomic shocks.
For macroeconomic stability, empirical findings suggest a
moderate macroeconomic effect of loan supply, particularly for developed
economies. However, the finding does not imply a small impact of banking
instability on the real sector. In fact, banking crises are estimated to have a larger
independent negative effect on economic growth after controlling for the
macroeconomic effect through impacts of banking crises on loan supply. There
are two main policy implications of these findings. First, the main channel
through which stronger capital and liquidity of banks help reduce macroeconomic
instability would have an impact on reducing the likelihood of the occurrence of a
banking crisis. Second, during non-crisis periods, bank regulations aiming at
smoothing loan supply may have a relatively moderate impact on reducing
macroeconomic instability.
For policy to address banking procyclicality, the results show that
aside from higher quantitative capital and liquidity requirements, more stringent
definitions of capital could dampen loan supply procyclicality, which speaks in
favor of recent policy initiatives to strengthen the quality of regulatory capital.
More stringent bank regulations are also found to reduce loan supply
procyclicality in countries with deposit insurance schemes. To reduce the
propagations of loan supply shocks to the real sector, policy to improve the
breadth of the stock market and the size of the domestic bond market would be
useful. / published_or_final_version / Economics and Finance / Doctoral / Doctor of Philosophy
| Identifer | oai:union.ndltd.org:HKU/oai:hub.hku.hk:10722/161512 |
| Date | January 2012 |
| Creators | Wong, Tak-chuen, 黃德存 |
| Contributors | Liu, Q |
| Publisher | The University of Hong Kong (Pokfulam, Hong Kong) |
| Source Sets | Hong Kong University Theses |
| Language | English |
| Detected Language | English |
| Type | PG_Thesis |
| Source | http://hub.hku.hk/bib/B47869537 |
| Rights | The author retains all proprietary rights, (such as patent rights) and the right to use in future works., Creative Commons: Attribution 3.0 Hong Kong License |
| Relation | HKU Theses Online (HKUTO) |
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