Is there a Bank Lending Channel of Monetary Policy in Latvia? Evidence from Bank Level Data

The goal of this paper is to explore the role of the banking sector in transmission of the Bank of Latvia's monetary policy and to check the existence of the bank lending channel in Latvia. For empirical investigation of the bank lending channel in Latvia, we use the approach that builds on the standard panel regression. The evidence on the bank lending channel is obtained by estimating a bank loan function that takes into account not only the monetary policy indicator and macroeconomic variables, but also bank-specific differences in the lending reaction to monetary policy actions. Empirical analysis shows that some banks in Latvia have statistically significant negative reaction to a domestic monetary shock; however, the weighted average reaction of the total lats loan growth is not statistically significant. A domestic monetary shock has only a distribution effect and affects banks that are small, domestically owned and have lower liquidity or capitalisation. The bank lending channel is limited only for the supply of lats loans, which dramatically reduces the importance of this channel.