Anxious periods and bank lending

Using a number of theoretical considerations, we define distinct periods of anxiety for key economic agents that are involved in lending decisions; namely, consumers, CEOs, and banks. The main characteristic of anxious periods is that the perceptions and expectations about economic conditions worsen for these agents even though the economy is not in a recession. Subsequently, we study the lending behavior of US banks during the three distinct pools of anxious quarters from 1985-2010, using bank-level data. We find that banks’ lending falls when consumers and banks are anxious, and this effect is more pronounced when banks hold a high level of credit risk. Yet, in those anxious periods that were followed by recessions, the negative impact of anxiety on loan growth is significantly weaker for banks with high-credit risk that points to the existence of a moral-hazard mechanism. We also find significant differentiation in banks’ lending within anxious periods across different loan categories. We contend that these findings point to the identification of an ‘expectations channel’ in banks’ lending that exists throughout the business cycle.