Liquidity regulation and bank funding costs

We establish a causal link between liquidity regulation and a lower cost of bank wholesale funding. For identification, we use pre-determined variation in banks' liquidity coverage ratio (LCR) in a difference-in-differences setup. Granular instrument-level data allow us to carefully control for any observable and unobservable time-varying factors at the creditor, instrument type, and macroeconomic levels. We find that banks with greater LCR exposure see a steeper decline in their wholesale funding costs. Consistent with seminal theoretical papers on bank liquidity risk, we provide novel evidence that wholesale funding costs decline by more for longer-maturity instruments and that banks shift from short to longer maturity liabilities. Our results support the argument that bank regulation can– at least partly– offset its costs to intermediaries through cheaper wholesale funding.