The Effects of Bank Capital on Lending: What Do We Know, and What Does It Mean?

Abstract

The effect of bank capital on lending is a critical determinant of the linkage between financial conditions and real activity, and has received especial attention in the recent financial crisis. We use panel regression techniques-following Bernanke and Lown (1991) and Hancock and Wilcox (1993, 1994)-to study the lending of large bank holding companies (BHCs) and find small effects of capital on lending. We then consider the effect of capital ratios on lending using a variant of Lown and Morgan's (2006) VAR model, and again find modest effects of bank capital ratio changes on lending. These results are in marked contrast to estimates obtained using simple empirical relations between aggregate commercial bank assets and leverage growth, which have recently been very influential in shaping forecasters' and policymakers' views regarding the effects of bank capital on loan growth. Our estimated models are then used to understand recent developments in bank lending and, in particular, to consider the role of TARP-related capital injections in affecting these developments.

The recent slowdown in bank lending in Spain: are supply-side factors relevant?

“…However, their results are far from being conclusive, mostly because the crisis or, at least, its effects on bank balancesheets, were still under way. Using a sample of US bank holding companies over the period 1992:Q1 to 2008:Q3, Berrospide and Edge (2010) find small effects of capital surpluses/shortfalls on lending. Larger effects are found by Francis and Osborne (2009) using a sample of U.K. banks over the period 1996:Q2 to 2007:Q4 and a similar methodology to that in Berrospide and Edge (a panel regression of loan growth on the deviation of bank capital with respect to a target).…”

“…In addition, some studies, like Watanabe (2007) or Berrospide and Edge (2010) attempt to measure banks' capital surplus, i.e. the difference between the observed and the desired capital ratios.…”

“…Watanabe (2007) or Berrospide and Edge (2010) highlight the difficulties inherent in estimating target capital levels.…”

“…Berrospide and Edge (2010) use aggregate data and find a very limited role for bank capital asset ratios in business lending growth. Using loan level data, Albertazzi and Marchetti (2010) and Jiménez et al (2012) find larger impacts made by banks' balance sheets.…”

The Recent Slowdown of Bank Lending in Spain: Are Supply-Side Factors Relevant?

“…However, their results are far from being conclusive, mostly because the crisis or, at least, its effects on bank balancesheets, were still under way. Using a sample of US bank holding companies over the period 1992:Q1 to 2008:Q3, Berrospide and Edge (2010) find small effects of capital surpluses/shortfalls on lending. Larger effects are found by Francis and Osborne (2009) using a sample of U.K. banks over the period 1996:Q2 to 2007:Q4 and a similar methodology to that in Berrospide and Edge (a panel regression of loan growth on the 123 deviation of bank capital with respect to a target).…”