Banks’ Risk and Monetary Policy: Altunbas, Gambacorta and

Marques

Discussion by Alistair Milne, Cass Business School, 22nd May 2008

What paper does…• Panel data estimates: effect of monetary policy (Δit) on loan growth

(Δln(L)t)– Euro-zone data (Bankscope), 1999-2005,

• Innovations/ features1. Inclusion of “expected default frequency” EDF– as a level term– interacted with interest rates2. time varying bank specific variables (liquidity LIQ, log assets SIZE, capital

asset ratio CAP)– Measured relative to sample mean (so interaction terms sum to zero)– Both as level terms and interacted with interest rates– In line with (but also different from) literature on ‘bank lending channel’

• Findings– All these levels and interaction terms highly statistically significant– Coefficients match conventional bank lending view

• constrained banks (low LIQ, SIZE, CAP) respond more to monetary policy

– Lower EDF associated with rapid lending growth• Interpretation less risky banks respond more to monetary policy

Motivation

• This paper is highly topical and has a great motivation

• Since July 2007– sharp drop in bank equity prices (higher EDF)– evident constraints on bank funding/ loan

growth

• So potential to reveal important lessons about the credit crunch

But a lot of work to be done…

• Better relationship to existing literature

• Distinguishing bank loan demand from bank loan supply

• Improving econometrics

Better relationship to literature

• Confusing literature– Many papers, few relate clearly to each other

• Bank balance sheet characteristics may affect supply of intermediated credit– Because of constrained access to wholesale funding markets

• Different aspects of this story– Cross-sectional: some banks constrained– Time series: access to wholesale funding varies over time.

• In my view original cross-sectional theory (Bernanke and Blinder (1988), Stein (1988)) flawed– Stein (personal correspondance) admits the theory is

ambiguous, • Too simple to say “results in line with bank lending

channel”– Literature says almost anything goes!

Loan demand v. supply

• The key empirical issue – must be able to distinguish loan demand from loan supply

• eg work of Kashyap and Stein (2000)– Go to great lengths to argue that their results reflect

differences in loan supply• EDF is correlated with loan demand

– High loan growth associated with higher equity price and hence lower EDF

– You have to find instruments for EDF that are correlated with loan supply and not loan demand

• Other variables (SIZE, LIQ, CAP) may also be correlated with loan demand

Econometric issues

• Essential to use time-country dummies– In Euro area different response of loan demand to

interest rates in different countries– I think time country dummies may be only way to

correct for this

• Model includes level variables– Therefore must include bank fixed effects

• Unclear from draft if you do this

• Why are interaction results (SIZE, CAP, LIQ) so different from Ehrman et. al. ? – Is this choice of data period? Please investigate