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

Jose M. Berrospide and Rochelle M. Edge
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Jose M. Berrospide: Federal Reserve Board
Rochelle M. Edge: Federal Reserve Board

International Journal of Central Banking, 2010, vol. 6, issue 34, 1-50

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.

JEL-codes: E51 G01 G21 G28 G32 (search for similar items in EconPapers)
Date: 2010
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Citations: View citations in EconPapers (284)

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