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The credit channel at work - lessons from the Republic of Korea's financial crisis

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  • Ferri, Giovanni
  • Tae Soo Kang

Abstract

The authors suggest that the credit channel - as a transmitter of monetary and financial shocks - appears to have aggravated the Republic of Korea's economic crisis. They use micro-data gathered at the bank level to better identify this channel of transmission. They find that: 1) Monetary tightening broadens the spread between marginal bank lending rates and corporate commercial paper rates (consistent with hypothesis that bank lending is a transmitter of monetary shocks). 2) Credit limits on overdrafts - arguably a proxy to identify shifts in the loan supply - react negatively to the monetary squeeze. 3) After the stiffening of bank capital adequacy requirements, banks suffering from larger negative capital shocks experience a more marked slowdown in lending and deposit-taking and also raise their loan rates disproportionately. These findings lend support to the hypothesis that autonomous contraction by banks restricts the availability of credit and magnifies the increase in its cost. This phenomenon compounded the Korean crisis by aggravating liquidity constraints for most agents that rely on bank credit as their only external source of funds. Policymakers may want to provide relief - possibly through market-based actions - to the small and medium-sized enterprises (and other businesses) that suffer unduly from such a credit crunch. To reduce obstacles to recovery, they may also want to devise market-based incentives to make bank loans available to healthy firms in sectors (such as exports) on which recovery depends.

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Bibliographic Info

Paper provided by The World Bank in its series Policy Research Working Paper Series with number 2190.

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Date of creation: 30 Sep 1999
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Handle: RePEc:wbk:wbrwps:2190

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Keywords: Banks&Banking Reform; Economic Theory&Research; Payment Systems&Infrastructure; Financial Intermediation; International Terrorism&Counterterrorism; Banks&Banking Reform; Financial Intermediation; Economic Theory&Research; Financial Crisis Management&Restructuring; Banking Law;

References

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  1. Ceyla PazarbaÅŸioÄŸlu, 1997. "A Credit Crunch? Finland in the Aftermath of the Banking Crisis," IMF Staff Papers, Palgrave Macmillan, vol. 44(3), pages 315-327, September.
  2. Anil K Kashyap & Jeremy C. Stein, 1997. "What Do a Million Banks Have to Say About the Transmission of Monetary Policy?," NBER Working Papers 6056, National Bureau of Economic Research, Inc.
  3. Bengt Holmstrom & Jean Tirole, 1994. "Financial Intermediation, Loanable Funds and the Real Sector," Working papers, Massachusetts Institute of Technology (MIT), Department of Economics 95-1, Massachusetts Institute of Technology (MIT), Department of Economics.
  4. Joe Peek & Eric Rosengren, 1991. "The capital crunch: neither a borrower nor a lender be," Working Papers, Federal Reserve Bank of Boston 91-4, Federal Reserve Bank of Boston.
  5. Gertler, M. & Gilchrist, S., 1992. "Monetary Policy, Business Cycles and the Behavior of Small Manufacturing Firms," Working Papers, C.V. Starr Center for Applied Economics, New York University 92-08, C.V. Starr Center for Applied Economics, New York University.
  6. Ben S. Bernanke & Mark Gertler, 1995. "Inside the Black Box: The Credit Channel of Monetary Policy Transmission," Journal of Economic Perspectives, American Economic Association, American Economic Association, vol. 9(4), pages 27-48, Fall.
  7. C. Conigliani & G. Ferri & A. Generale, 1997. "The impact of the bank-firm relations on the propagation of monetary policy squeezes: an empirical assessment for Italy," BNL Quarterly Review, Banca Nazionale del Lavoro, Banca Nazionale del Lavoro, vol. 50(202), pages 271-299.
  8. Hancock, Diana & Laing, Andrew J. & Wilcox, James A., 1995. "Bank capital shocks: Dynamic effects on securities, loans, and capital," Journal of Banking & Finance, Elsevier, Elsevier, vol. 19(3-4), pages 661-677, June.
  9. R. Glenn Hubbard, 1995. "Is there a "credit channel" for monetary policy?," Proceedings, Federal Reserve Bank of St. Louis, Federal Reserve Bank of St. Louis, issue May, pages 63-77.
  10. Steven A. Sharpe, 1995. "Bank capitalization, regulation, and the credit crunch: a critical review of the research findings," Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.) 95-20, Board of Governors of the Federal Reserve System (U.S.).
  11. Stiglitz, Joseph E & Weiss, Andrew, 1981. "Credit Rationing in Markets with Imperfect Information," American Economic Review, American Economic Association, American Economic Association, vol. 71(3), pages 393-410, June.
  12. Bongini, Paola & Ferri, Giovanni & Hahm, Hongjoo, 2000. "Corporate Bankruptcy in Korea: Only the Strong Survive?," The Financial Review, Eastern Finance Association, Eastern Finance Association, vol. 35(4), pages 31-50, November.
  13. Allen N. Berger & Anil K. Kashyap & Joseph M. Scalise, 1995. "The Transformation of the U.S. Banking Industry: What a Long, Strange Trips It's Been," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 26(2), pages 55-218.
  14. Morgan, Donald P, 1998. "The Credit Effects of Monetary Policy: Evidence Using Loan Commitments," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 30(1), pages 102-18, February.
  15. R. Glenn Hubbard, 1995. "Is there a "credit channel" for monetary policy?," Review, Federal Reserve Bank of St. Louis, issue May, pages 63-77.
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Citations

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Cited by:
  1. Sung Jin Kang & Yasuyuki Sawada, 2008. "Credit Crunch And Household Welfare, The Case Of The Korean Financial Crisis," The Japanese Economic Review, Japanese Economic Association, Japanese Economic Association, vol. 59(4), pages 438-458.
  2. Kris James Mitchener, 2004. "Bank Supervision, Regulation, and Instability During the Great Depression," NBER Working Papers 10475, National Bureau of Economic Research, Inc.
  3. Joe Peek & Eric S. Rosengren, 2013. "The role of banks in the transmission of monetary policy," Public Policy Discussion Paper, Federal Reserve Bank of Boston 13-5, Federal Reserve Bank of Boston.
  4. Tobias Knedlik & Johannes Ströbel, 2006. "The role of banking portfolios in the transmission from currency crises to banking crises - potential effects of Basel II," IWH Discussion Papers, Halle Institute for Economic Research 21, Halle Institute for Economic Research.
  5. Borensztein, Eduardo & Lee, Jong-Wha, 2002. "Financial crisis and credit crunch in Korea: evidence from firm-level data," Journal of Monetary Economics, Elsevier, Elsevier, vol. 49(4), pages 853-875, May.
  6. Verónica Mies M. & Felipe Morandé L. & Matías Tapia G., 2002. "Monetary Policy and Transmission Mechanisms: New Elements for an old Debate," Journal Economía Chilena (The Chilean Economy), Central Bank of Chile, Central Bank of Chile, vol. 5(3), pages 29-66, December.
  7. Yasuyuki Sawada & Sung Jin Kang, 2004. "Credit Crunches and Household Welfare: The Case of Korean Financial Crisis," Econometric Society 2004 Far Eastern Meetings, Econometric Society 751, Econometric Society.
  8. Antonio Forte & Giovanni Pesce, 2009. "The International Financial Crisis: an Expert Survey," series, Dipartimento di Scienze Economiche e Metodi Matematici - Università di Bari 0024, Dipartimento di Scienze Economiche e Metodi Matematici - Università di Bari, revised Apr 2009.

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