Is the Lending Channel of Monetary Policy Dominant in Australia?

Abstract

The transmission process of monetary policy is a longstanding macroeconomic issue. The lending view is that a monetary tightening affects aggregate demand by shifting the supply schedule of bank loans left. The contraction of bank loans does not necessarily mean a shift of the supply schedule. Therefore, testing the lending view requires the identification of the shifts of the demand and supply schedules in the bank loan market. This paper employs an original approach, finding that the lending channel is not dominant in Australia. The paper also examines features of Australian banks’ behaviour which make the lending channel less dominant.

The Role of Portfolio Shocks in a Structural Vector Autoregressive Model of the Australian Economy*

“…In analysing the properties of the model, both aggregate demand and supply shocks are identified, as well as shocks in domestic and international equity markets, and nominal shocks arising in money markets. The use of long‐run restrictions to identify the model contrasts with the Australian SVAR models of Brischetto and Voss (1999), Dungey and Pagan (2000), Dungey and Fry (2003) and Suzuki (2004) among others, who achieve identification by placing restrictions on the short‐run relationships. Others adopt various approaches in modelling long‐run relationships.…”

Output Composition of the Monetary Policy Transmission Mechanism: Is Australia Different?

“…Dungey and Pagan (, ) also estimate a SVAR model with restrictions emphasising some structural relations for the Australian economy. Some other authors such as Suzuki () and Berkelmans () examine the roles of each particular tool of monetary policy in Australia. Fry et al .…”

The Bank Lending Channel: Evidence from Australia

“…An influential work by Bernanke and Blinder (1992) uses a vector auto regression (VAR) model to show that a contractionary monetary policy induces a decline in bank loans and economic activities. Many researchers have applied this methodology to different countries (Ashcraft 2006;Kakes & Sturm 2002;Ramlogan 2004;Suzuki, 2004). However, their findings are inconsistent in terms of the role of the bank lending channel.…”

“…Suzuki (2004) is the only study of lending channels in Australia and he argues that loan contraction is largely due to a change in demand, thus lending channels are not dominant in Australia.…”

“…The big four hold more than 90 percent of total loans. It has been argued that analysing panel data on banks' balance sheets is not of much value given the highly concentrated banking industry (Suzuki, 2004). However, given that the primary monetary policy decision of the Reserve Bank of Australia (RBA) has been to set the interest rate on overnight loans in the money market with the expectation that "the behaviour of borrowers and lenders in the financial markets is affected by monetary policy" (RBA 2011a), we cannot be sure that such an expectation is realistic unless we can produce the evidence of the changed behaviour and, more importantly, which group or which type of loans is more likely to change after a monetary policy shock.…”