Did the EBA Capital Exercise Cause a Credit Crunch in the Euro Area?

We exploit a unique monthly dataset of bank balance sheets to document the lending behaviour of euro area banks that were subject to the EBA's 2011/12 Capital Exercise. This exercise was announced in October 2011 and required large European banking groups to meet a higher Tier 1 capital ratio by June 2012, after accounting for an unprecedented temporary buffer against exposure to sovereign debt. Controlling for bank characteristics and demand at the level of country of residence, we find that banks in a banking group that had to increase its capital by 1 percent of risk-weighted assets tended to have annualized loan growth (over the 9 month period of the exercise) that was between 1.2 and 1.6 percentage points lower than for banks in groups that did not have to increase their capital ratio. Looking at aggregate effects at the country level, we also find that banks that did not have to recapitalize did not substitute for more constrained lenders. Our results are of particular relevance for the decisions facing the new European Single Supervisor in advance of its Asset Quality Review due in November 2014.