Publication - External financing and economic activity in the euro area - why are bank loans special? - by Iñaki Aldasoro and Robert Unger
Introduction
The composition of flows of external financing to the non-financial private sector of the euro area, comprising non-financial corporations and private households, has notably changed in recent years.
1 Figure 1 below shows total external financing flows divided into flows of bank loans and flows of all other sources of financing, such as equity, debt securities and loans from non-banks. The 2000s saw a pronounced bank credit boom, with flows of bank loans accounting for almost 55% of total financing flows during the height of the credit upswing. In the period before the global financial crisis they made up on average around 40%.
When the global financial crisis hit, bank loan flows slowed down remarkably. Starting with the intensification of the euro-area debt crisis, they even went into negative territory for a considerable period of time. Whereas flows of other financing sources also weakened beginning with the global financial turmoil, they never turned negative and remained relatively stable. Taken together, recent years witnessed a significant shift in the structure of external financing flows away from bank loans to other sources of financing.
The outbreak of the global financial crisis marked the beginning of a period during which bank loan supply restrictions may have been an important driver of credit growth. Against this background, the divergence in the evolution of the two types of financing flows suggests that other sources of financing acted as a “spare tire” for the loss in bank loan financing (see, for example, Adrian, Colla, and Shin, 2013; Antoun de Almeida and Masetti, 2016; Becker and Ivashina, 2014; Levine, Lin, and Xie, 2016). This endogenous response of other financing sources can potentially mitigate the negative impact of adverse bank loan supply shocks on the economy. Failing to take this reaction into account might thus bias the inference drawn regarding the impact of bank loan supply shocks on key macroeconomic variables such as real GDP or the GDP deflator.
We address this issue for the euro-area aggregate by enlarging the classic monetary policy vector autoregression (VAR) – which includes a measure of real output, the price level and a monetary policy instrument – with flows of bank loans, the interest rate on bank loans, and flows of alternative sources of financing. We identify three financing shocks, as well as the classic macro shocks commonly identified in monetary policy VARs. Following the spirit of Becker and Ivashina (2014), we identify an adverse bank loan supply shock as an innovation that is characterized by a decrease in the flow of bank loans and an increase in the flow of other sources of financing. The idea behind this (microeconomic) identification strategy is that an economic agent which raises a source of financing other than bank loans has a positive demand for financing and the reduction in bank loans must thus represent a restriction in its supply. To map this identification strategy to the macro level, we follow common practice in VAR analyses and also impose that the interest rate on bank loans increases.
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