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

• DOI: http://doi.org/10.1111/jofi.12735
• Date: 01 February 2019
• Author: JESSICA ROLDÁN‐PEÑA,JOSÉ‐LUIS PEYDRÓ,CLAUDIA RUIZ‐ORTEGA,BERNARDO MORAIS
• Published date: 01 February 2019

THE JOURNAL OF FINANCE •VOL. LXXIV, NO. 1 •FEBRUARY 2019

The International Bank Lending Channel

of Monetary Policy Rates and QE: Credit Supply,

Reach-for-Yield, and Real Effects

BERNARDO MORAIS, JOS ´

E-LUIS PEYDR ´

O, JESSICA ROLD ´

AN-PE ˜

NA,

and CLAUDIA RUIZ-ORTEGA∗

ABSTRACT

We identify the international credit channel by exploiting Mexican supervisory data

sets and foreign monetary policy shocks in a country with a large presence of Euro-

pean and U.S. banks. A softening of foreign monetary policy expands credit supply

of foreign banks (e.g., U.K. policy affects credit supply in Mexico via U.K. banks),

inducing strong firm-level real effects. Results support an international risk-taking

channel and spillovers of core countries’ monetary policies to emerging markets, both

in the foreign monetary softening part (with higher credit and liquidity risk-taking by

foreign banks) and in the tightening part (with negative local firm-level real effects).

THE RECENT GLOBAL FINANCIAL CRISIS, as well as other previous crises, have

shown that bank credit cycles have a significant effect on the economy, fi-

nancial globalization can impact financial stability, and monetary policy may

be a key public policy tool (Bernanke (1983), Reinhart and Rogoff (2009),

Schularick and Taylor (2012)). Strong bank credit growth, especially that

financed by foreign liabilities, is the most important predictor of finan-

cial crises (Jorda, Schularick, and Taylor (2011), Gourinchas and Obstfeld

∗Bernardo Morais is with Federal Reserve Board. Jos´

e-Luis Peydr´

o is with ICREA–Universitat

Pompeu Fabra, CREI, Barcelona GSE, Imperial College, CEPR. Jessica Rold´

an-Pe˜

na is with Banco

de M´

exico. Claudia Ruiz-Ortega is with DECFP,World Bank. We are grateful to Banco de M´

exico, in

particular to Ana Aguilar and Adri´

an De la Garza, for their support of this project. Wethank Gabriel

Chodorow-Reich, Daniel Dias, Andrea Fabiani, Mark Gertler, Peter Karadi, Fabrizio Lopez-Gallo

Dey,Soledad Martinez-Peria, Victoria Nuguer, Pascual O’Dogherty, Raghuram Rajan, H´

el`

ene Rey,

John Rogers, Andrei Shleifer, Jeremy Stein, Andr´

e Trindade, conference participants at the NBER

Summer Institute in Finance-Macro and Monetary Economics, and the seminar participants at

Bank of England, Banca d’Italia, Banco de M´

exico, Banco de Portugal, CREI, Istituto Einaudi,

Oxford University, World Bank, Vanderbilt University and the Federal Reserve Board for helpful

comments. We thank Carlos Zaraz ´

ua for outstanding research assistance. We also thank several

referees and editors. The views in this paper are solely the responsibility of the authors and

should not be interpreted as reflecting the views of the Board of Governors of the Federal Reserve

System or of any other person associated with the Federal Reserve System, the World Bank, or

Banco de M´

exico. Banco de M´

exico asked to review the results of the study prior to dissemination

to ensure confidentiality of the data. Peydr´

o acknowledges financial support from the Spanish

Ministry of Economics and Competitiveness through both Feder EU (project ECO2015-68182-P)

and the Severo Ochoa Programme for Centres of Excellence in R&D (SEV-2015-0563), and also

the European Research Council Grant (project 648398).

DOI: 10.1111/jofi.12735

55

56 The Journal of Finance R

(2012)), which are in general accompanied by bank credit crunches and sud-

den stops of foreign capital (Bernanke and Lown (1991), Calvo and Rein-

hart (2000)). Moreover, as Rey (2013) argued at the Federal Reserve’s an-

nual conference in Jackson Hole, monetary policy set by the Federal Re-

serve may have substantial spillovers in emerging markets’ credit cycles,

generating an international risk-taking channel of monetary policy. In line

with this view, the Federal Reserve Vice Chairman Stanley Fischer (2014),

warned about international spillovers that both interest rate and quanti-

tative easing (QE) may have, pointing out that European monetary policy

also plays an important role, as European banks are strongly globalized, and

emerging market central bankers, such as Raghuram Rajan (2014) Reserve

Bank of India Governor, have expressed concern about the spillovers of the

United States and Europe’s monetary policy on the financial stability of their

economies.

In this paper, we study the international credit and risk-taking channel of

monetary policy, in particular, the effect of core countries’ monetary policy

on emerging markets’ credit cycles. More specifically, we analyze (i) whether

foreign monetary policy affects the supply of credit from foreign banks to local

firms, (ii) whether foreign monetary policy shocks have real effects in terms of

firm investment, employment, and survival, or whether local firms are able to

reduce the effects of such shocks by substituting credit with local banks or with

other sources of finance, (iii) whether an expansive foreign monetary policy

creates an international risk-taking channel by affecting global banks’ reach-

for-yield incentives, (iv) whether these effects depend on the type of monetary

policy used, that is policy rates versus QE, and (v) whether foreign and local

banks finance local credit expansion differently.

Despite the importance of these questions for policy and macro-finance, iden-

tification of the effect of foreign monetary policies on the credit and risk-taking

channel by foreign banks has not been possible due to a lack of comprehensive

credit registry data, that can be matched to firm and bank information, over

a sufficiently long period to analyze monetary policy. As we explain below, a

matched credit-firm data set is necessary to identify and analyze credit supply,

including risk-taking and reach-for-yield, as well as the associated real effects

of credit supply.Moreover, while foreign banks are important around the world,

they are even more so in emerging markets and developing countries, where

they account for around 50% of the market share in terms of loans, deposits,

and profits (Claessens and van Horen (2012)).

We overcome these hurdles by using proprietary data from the Mexican

banking supervisor. These data contain all business loans over the 2001 to

2015 period, and are matched with firm balance sheet information (including,

e.g., firm investment and employment) as well as bank information on owner-

ship and funding. Importantly, this data set includes all new and outstanding

commercial loans at a monthly frequency from all banks in Mexico, as well as

relevant loan terms, including loan rates (which are absent from most credit

registers around the world). Moreover, loans issued by foreign banks in Mexico

(owned by U.S. and Eurozone and U.K. investors) are important, as the credit

The International Bank Lending Channel 57

these banks extend to Mexican firms represents roughly 60% of all commercial

bank credit in Mexico (which is similar to other emerging markets as shown

by Claessens and van Horen (2012)).

To identify the credit and risk-taking channels of monetary policy (Bernanke

and Gertler (1995), Stein (1998,2012), Kashyap and Stein (2000), Adrian and

Shin (2011), Maddaloni and Peydr´

o(2011), Rey (2013)), we analyze loan-level

data at the monthly frequency with borrower (or borrower*month) fixed effects.

This allows us to control for unobserved (time-varying) firm fundamentals such

as investment opportunities or risk that proxy for credit demand, given that

foreign banks may lend to different types of firms (Khwaja and Mian (2008),

Mian (2006)). Since only 21% of all firms borrow from multiple banks in a given

period, in some specifications we use firm*bank and state*industry*month

fixed effects to include firms that, in a given period borrow only from one

bank. Note that as period fixed effects control for unobserved global shocks,

identification also comes in a given month from differential monetary policies

between Mexico, the United States, the United Kingdom, and the Eurozone.1

To identify the risk-taking channel of monetary policy, we classify borrowers

into high- and low-yield groups based on their ex ante loan rates and analyze

changes in credit supply, including ex post loan defaults.

To identify the associated real effects, we analyze total bank credit and total

(bank and nonbank) firm-level credit availability as well as the dynamics of

firm assets, net investment, employment, and a proxy to firm survival due to

loan defaults. Analyzing firm-level credit is key as firms could potentially min-

imize the international monetary policy shocks by substituting their current

credit suppliers with credit from other banks or from other sources of finance.

Furthermore, in contrast to papers that analyze the effect of local monetary

policy on local credit conditions, we examine European and U.S. monetary poli-

cies, which are exogenous to the Mexican economy. For monetary rates, we use

a measure of Taylor rule-type shocks. For QE, we use the change in the balance

sheets of U.S., U.K. and Eurozone central banks as a share of GDP.2

We find the following robust results. A foreign policy rate shock affects the

supply of credit to Mexican firms mainly via their respective foreign banks in

Mexico: U.S., U.K., and Eurozone monetary policies impact the supply of credit

to Mexican firms mostly through U.S., U.K., and Eurozone banks, respec-

tively. Furthermore, all loan terms are significantly affected, reinforcing the

1Our results suggest similar borrower-observable fundamentals among foreign and local banks

and strong exogeneity of firm fundamentals to bank shocks (Altonji, Elder,and Taber (2005)), since,

despite the huge increase in R2due to unobservables, our estimated coefficients do not change if

we control for firm*period rather than state*industry*period fixed effects.

2To address concerns about potential endogeneity of foreign monetary policy, (i) we use a proxy

for a Taylor rule-type shock, (ii) we control for foreign economic activity in interactions with our

main variables, including current and expected annual GDP growth, inflation, and financial risk,

and (iii) we instrument for foreign monetary policy. Note that while the Fed and the Bank of

England (BoE) pursued QE explicitly as a key nonstandard monetary policy,the European Central

Bank (ECB) main nonstandard monetary policy until 2015 was the full provision of liquidity to

banks (ECB (2009,2011)).