The transmission mechanisms of macroprudential policies on bank risk

In this article, we study the transmission mechanisms of the effect of a set of 12 macroprudential policies on the risk-taking of banks using a large number of countries and a novel identification approach. Our results show that tools which aim to address vulnerabilities from interconnectedness and contagion of the financial system, such as limits on asset concentration and interbank exposures, have a positive effect on bank stability, enhancing the risk-return relation of banks and reducing leverage. Some borrower-based instruments also have a positive effect on bank stability, primarily through the leverage channel. We also find evidence that banks reduce their equity when policies impose limits on domestic and foreign currency loans. The effects are quite heterogeneous and vary considerably depending on the instrument implemented, market concentration, size of banks, liquidity, leverage and different levels of risk.