Monetary Policy at Work: Security and Credit Application Registers Evidence

The potency of the bank lending channel of monetary policy may be limited if banks rebalance their portfolios towards securities, e.g. to pursue risk-shifting or liquidity hoarding. To test for the bank lending and risk-taking (reach-for-yield) channels, we therefore analyze banks' securities trading, in addition to credit supply, in turn allowing us to also study the empirical relevance of key financial frictions. For identification, since the creation of the euro, we exploit the security and credit application registers owned by the central bank of Italy. In crisis times, we find that, with softer monetary policy, less capitalized banks prefer buying securities rather than increasing credit supply (not due to lack of good loan applications), thereby impacting firm-level real outcomes. Moreover, more - not less - capitalized banks reach-for-yield, which is inconsistent with the risk-shifting hypothesis. Results suggest that the main drivers at work are access to liquidity and risk-bearing capacity, and not regulatory capital arbitrage. Finally, in pre-crisis times, when financial frictions are limited, less capitalized banks do not expand securities holdings over credit supply.