Global Banks’ Leverage and Global Liquidity

Iván Weigandi
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Iván Weigandi: ODI Global

No 402, Working Papers from Red Nacional de Investigadores en Economía (RedNIE)

Abstract: This paper studies the role of global banks as a source of shocks to global liquidity. Shifts in global liquidity can drive cross-border flows, asset prices, and exchange rates, with implications for financial stability. While the existing literature emphasizes global banks as amplifiers of global shocks, I provide causal evidence that idiosyncratic leverage shocks to these institutions loosen global liquidity conditions. The analysis exploits the high concentration of global banking to construct a Granular Instrumental Variable from the size-weighted sum of bank-level idiosyncratic leverage shocks. These shocks are estimated using Instrumented Principal Component Analysis, using observable bank characteristics (e.g., size, profitability, liquidity, and risk metrics) as instruments to account for bank-specific and time-varying exposures to common global factors. Using the instrument and panel local projections, I estimate the dynamic causal effects of these banks’ leverage shocks on key global liquidity measures for an unbalanced panel of 74 advanced and emerging market economies from 2000Q1 to 2022Q4. Positive shocks to global banks’ leverage significantly appreciate exchange rates against the dollar, reduce US dollar-denominated bond spreads, and increase gross cross-border inflows. Significant effects on total cross-border flows indicate broader spillovers across asset markets. These findings underscore the systemic relevance of G-SIBs in driving global financial conditions and support macro-financial models where financial intermediaries’ leverage is a key state variable influencing risk-taking and asset prices. By showing that global banks can originate, rather than merely transmit, global shocks, this paper adds to the literature on the global financial cycle and the international transmission of financial conditions.

Keywords: Global Banks; Capital Flows; Exchange rates; Emerging Market Bond Index; Granular Instrumental Variables; Instrumented Principal Component Analysis; Local Projections. (search for similar items in EconPapers)
Pages: 47 pages
Date: 2026-07
New Economics Papers: this item is included in nep-ifn and nep-mon
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Persistent link: https://EconPapers.repec.org/RePEc:aoz:wpaper:402

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