Do bank loan rates exhibit a countercyclical mark-up?
Based on a switching-cost model, we examine empirically the hypotheses that bank loan mark-ups are countercyclical and asymmetric in their responsiveness to recessionary and expansionary impulses. The first econometric model treats changes in the mark-up as a continuous variable. The second treats them as an ordered categorical variable due to the discrete nature of prime rate changes. By allowing the variance to switch over time as a Markov process, we present the first conditionally heteroskedastic discrete choice (ordered probit) model for time-series applications. This feature yields a remarkable improvement in the likelihood function. Specifications that do not account for conditional heteroskedasticity find evidence of both countercyclical and asymmetric mark-up behavior. In contrast, the heteroskedastic ordered probit finds the mark-up to be countercyclical but not significantly asymmetric. We explain why controlling for conditional heteroskedasticity may be important when testing for downward stickiness in loan rates.
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- Engle, Robert F, 1982. "Autoregressive Conditional Heteroscedasticity with Estimates of the Variance of United Kingdom Inflation," Econometrica, Econometric Society, vol. 50(4), pages 987-1007, July.
- Klemperer, Paul, 1995. "Competition When Consumers Have Switching Costs: An Overview with Applications to Industrial Organization, Macroeconomics, and International Trade," Review of Economic Studies, Wiley Blackwell, vol. 62(4), pages 515-39, October.
- Richard J. Gilbert & Paul Klemperer, 2000.
"An Equilibrium Theory of Rationing,"
RAND Journal of Economics,
The RAND Corporation, vol. 31(1), pages 1-21, Spring.
- Hamilton, James D., 1990. "Analysis of time series subject to changes in regime," Journal of Econometrics, Elsevier, vol. 45(1-2), pages 39-70.
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