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External financing costs and banks' loan supply: does the structure of the bank sector matter

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  • Ostergaard, Charlotte

Abstract

This paper investigates whether banks' loan supply depend on internally generated capital in a fashion that varies according to the size-structure of the bank sector. Banks may experience liquidity constraints if it is costly to raise uninsured funds and recent evidence suggests that external financing costs may be particularly high for small banks. Considering that retail loan markets are predominantly local in nature, this paper asks whether the potential significance of individual-bank constraints carry over to a regional level in a manner that affects the overall supply of bank credit to local loan markets. Panel data for US states is used to study how state-level loan supply covaries with cash flow in bank systems with different size-structures. Shifts in the demand for loans induced by the Tax Reform Act of 1986 is used to identify loan supply. The results produce strong evidence of state-level supply effects. It is shown that loan supply of bank systems with a high percentage of small banks depends pro-cyclically on banks' internal generation of capital and that no systematic covariation is present in bank systems with relatively few small banks.

Suggested Citation

  • Ostergaard, Charlotte, 2000. "External financing costs and banks' loan supply: does the structure of the bank sector matter," LSE Research Online Documents on Economics 119101, London School of Economics and Political Science, LSE Library.
    • Handle: RePEc:ehl:lserod:119101
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    File URL: https://researchonline.lse.ac.uk/id/eprint/119101/
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    References listed on IDEAS

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    Keywords

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    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • E50 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - General
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy

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