Following the financial crisis, academics and policymakers have argued that monetary policies pursued by lending countries may have negative spillovers for financial stability in emerging markets (Fischer 2014, Rajan 2014). Recent studies support this. They find a significant international transmission of monetary policy through its effect on the aggregate supply of cross-border loans. Bruno and Shin (2015), for instance, show that a contractionary shock to US monetary policy leads to a decrease in cross-border bank lending.
Studies that use micro data provide additional evidence on how international monetary policy shocks affect bank lending to borrowers in other countries. Morais et al. (2015), for instance, investigate the impact of monetary policy in three financial centres (the US, the UK, and the Eurozone) on the provision of credit by subsidiaries of banks based in these centres to corporations in Mexico. They found that a higher monetary policy interest rate reduced credit supply, especially towards riskier borrowers. The picture that emerges from these studies is that international banks frequently are sources of financial instability, transmitting monetary policy shocks to borrowing economies.1
In recent work, we investigate the role of foreign bank ownership per se in the transmission of monetary policy (Demirgüç-Kunt et al. 2017). In particular, we examine how foreign bank ownership in borrowing countries has affected the transmission of lender-country monetary policy through the international syndicated loan market. We find that higher foreign bank ownership has reduced the sensitivity of cross-border loan supply to lender-country monetary policy interest rates, to some extent insulating borrower countries from lender-county monetary policy changes.
A possible explanation for this is that foreign bank ownership makes cross-border credit relationships more informed and valuable to international lenders, which provides them with incentives to stabilise these relationships when confronted with lender-country monetary policy changes. If foreign bank ownership in borrowing countries tends to stabilise the cross-border supply of syndicated loans in this way, this is an important qualification to the picture of international banks as sources of credit instability in borrowing countries.2
Data on cross-border loan supply
We use data on cross-border syndicated loans to non-financial firms from the Loan Pricing Corporation’s (LPC) Dealscan database. Cross-border syndicated loans typically are provided by a syndicate of lender banks that reside in different countries and face different monetary policy interest rates. Our sample is made up of loans provided by lenders in 50 countries, to borrowers in 124 countries, between 1995 and 2015.
We relate loan volumes to lender-country policy interest rates to gain information on the international transmission of monetary policy to cross-border loan supply. Because many lenders were involved in syndicated loans, it is possible to include borrower-firm fixed effects to control for variation in loan demand. Identification of a loan supply effect of lender-country monetary policy relies on variation in policy interest rates across the lenders that have a credit relationship with the same borrower at the same time. To investigate the role of foreign bank ownership in the monetary transmission process, we alternatively use foreign bank ownership data at the borrower-country level (from Barth et al. 2013), or banking FDI data at the bilateral borrower-country, lender-country level (from Claessens and van Horen 2015).
- A higher lender-country monetary policy rate reduced cross-border syndicated loan supply.This is as expected. Sensitivity of cross-border loan supply to the policy interest rate, however, declined with the foreign ownership of banks in the borrower country. In particular, a 1 percentage point increase in the monetary policy interest rate reduced cross-border loan supply by 1.78% in the absence of foreign bank ownership, but only by 0.91% if the share of foreign-owned banks was at its mean value of 16.5%.3
- Foreign ownership of banks attenuates the sensitivity of cross-border loan supply to the monetary policy interest rate. This finding was robust when controlling for a range of macroeconomic and institutional factors (in both borrower and lender countries) that could affect the international transmission of monetary policy. Among these, borrower-country per capita GDP and financial development, as measured by the domestic credit-to-GDP ratio, also had a mitigating effect on the sensitivity of cross-border loan supply to lender-country monetary policy. Perhaps this reflects that international credit relationships involving borrowers in countries with a higher per capita GDP and greater financial development are relatively valuable to the lender banks.
- Overall, foreign bank ownership in a borrower country could stabilise cross-border credit supply in the face of monetary policy shocks. This is because it reflects a multinational bank’s own operation of subsidiaries in a borrower country, or alternatively because of the external effects created by other multinational banks’ operations in the borrower country. Such external effects could materialise, for instance, if foreign ownership of banks generally affects the efficiency and profitability of a country’s banking market. We found evidence that proxies for multinational banks’ operations in a borrower country, as well as the aggregate rate of foreign ownership in a borrowing country, matter for the transmission of monetary policy.
Foreign ownership reduces negative impact
Foreign bank ownership in a borrower country reduces the negative impact of higher lender-country monetary policy rates on cross-border syndicated loan supply. The evidence that foreign bank ownership has a mitigating impact on the transmission of monetary policy changes qualifies the characterisation of international banks as sources of cross-border credit instability when there are monetary policy shocks. Foreign bank ownership apparently has an insulating effect on cross-border credit supply. This also suggests that countries could stabilise their cross-border credit supply by reducing restrictions on foreign bank entry into local banking markets.
Authors’ note: This column’s findings, interpretations, and conclusions are entirely those of the authors and do not necessarily represent the views of the World Bank, its Executive Directors, or the countries they represent.