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Effects of equity capital on the interest rate and the demand for credit. Empirical evidence from Spanish banks

Author

Listed:
  • Alfredo Martín-Oliver

    () (Universitat de les Illes Balears)

  • Sonia Ruano

    () (Banco de España)

  • Vicente Salas-Fumás

    (Universidad de Zaragoza)

Abstract

We examine the consequences of imposing higher capital requirements on banks (as under Basel III or, recently, in the case of large banks in the European context) for bank dynamics in complying with the new standards and for the long-term effects on bank lending rates and the demand for bank credit. The analysis combines econometric estimations of the determinants of equity capital ratios and lending rates with simulations of market equilibrium results for loan interest rates and the demand for bank credit, based on a parameterised model of the Spanish banking industry. We find that the gap between the target and the actual capital ratio is reduced by around 40% every year, mainly with retained earnings. We also find that raising the equity capital ratio by one percentage point increases bank lending rates by 4.2 basis points. Finally, the simulation exercise shows that the estimated increase in the cost of funds for banks associated with a one percentage point increase in the equity capital ratio leads to a fall of 0.8% in the total demand for bank credit. These results suggest that the social costs of higher equity capital requirements for banks are expected to be greater in the transition period, when banks are adjusting to the new standards, than in the steady state of the new industry equilibrium, when all banks comply with the new ratio

Suggested Citation

  • Alfredo Martín-Oliver & Sonia Ruano & Vicente Salas-Fumás, 2012. "Effects of equity capital on the interest rate and the demand for credit. Empirical evidence from Spanish banks," Working Papers 1218, Banco de España;Working Papers Homepage.
  • Handle: RePEc:bde:wpaper:1218
    as

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    File URL: http://www.bde.es/f/webbde/SES/Secciones/Publicaciones/PublicacionesSeriadas/DocumentosTrabajo/12/Fich/dt1218e.pdf
    File Function: First version, April 2012
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    References listed on IDEAS

    as
    1. David Miles & Jing Yang & Gilberto Marcheggiano, 2013. "Optimal Bank Capital," Economic Journal, Royal Economic Society, vol. 123(567), pages 1-37, March.
    2. Anat R. Admati & Peter M. DeMarzo & Martin F. Hellwig & Paul Pfleiderer, 2010. "Fallacies, Irrelevant Facts, and Myths in the Discussion of Capital Regulation: Why Bank Equity is Not Expensive," Discussion Paper Series of the Max Planck Institute for Research on Collective Goods 2010_42, Max Planck Institute for Research on Collective Goods.
    3. Ignacio Hernando & Ernesto Villanueva, 2014. "The recent slowdown in bank lending in Spain: are supply-side factors relevant?," SERIEs: Journal of the Spanish Economic Association, Springer;Spanish Economic Association, vol. 5(2), pages 245-285, August.
    4. Reint Gropp & Florian Heider, 2010. "The Determinants of Bank Capital Structure," Review of Finance, European Finance Association, vol. 14(4), pages 587-622.
    5. William Francis & Matthew Osborne, 2009. "Bank regulation, capital and credit supply: Measuring the Impact of Prudential Standards," Occasional Papers 36, Financial Services Authority.
    6. Shekhar Aiyar & Charles W. Calomiris & Tomasz Wieladek, 2012. "Does Macro-Pru Leak? Evidence from a UK Policy Experiment," NBER Working Papers 17822, National Bureau of Economic Research, Inc.
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    Cited by:

    1. Markus Behn & Marco Gross & Tuomas Peltonen, 2016. "Assessing the costs and benefits of capital-based macroprudential policy," ESRB Working Paper Series 17, European Systemic Risk Board.
    2. Gila-Gourgoura, E. & Nikolaidou, E., 2017. "Credit Risk Determinants in the Vulnerable Economies of Europe: Evidence from the Spanish Banking System," International Journal of Business and Economic Sciences Applied Research (IJBESAR), Eastern Macedonia and Thrace Institute of Technology (EMATTECH), Kavala, Greece, vol. 10(1), pages 60-71, March.

    More about this item

    Keywords

    Bank capital regulation; Basel III; bank lending rates; demand for credit;

    JEL classification:

    • D24 - Microeconomics - - Production and Organizations - - - Production; Cost; Capital; Capital, Total Factor, and Multifactor Productivity; Capacity
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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