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Banking policy and macroeconomic stability - an exploration

Listed author(s):
  • Caprio, Gerard Jr.
  • Honohan, Patrick

Whether and when does banking serve to stabilize the economy? The authors view the banking system as a filter through which foreign and domestic shocks feed through to the domestic economy. The filter can dampen or amplify the shocks through various credit market channels, including credit growth, import of foreign capital, and possibly interest rates. The question is whether the prudential quality of banking, as proxied by measures of regulatory quality and openness to foreign banking, amplify or dampen these shocks. The authors find that many of the regulatory characteristics that have been found to deepen a financial system and make it more robust to crises-notably those which empower the private sector-also appear to reduce the sector's ability to provide short-term insulation to the macro-economy. It is as if prudent bankers are reluctant to absorb short-term risks that, if neglected, might cause solvency and growth problems in the longer run. Forbearance might dampen short-term volatility, but at the expense of the longer run health of the banking sector and the economy. One way to avoid this apparent tradeoff is evident: banking systems which have a higher share of foreign-owned banks, a feature already associated with financial deepening and lowered risk of crisis, also seem to score well in terms of short-term macroeconomic insulation.

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Paper provided by The World Bank in its series Policy Research Working Paper Series with number 2856.

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Date of creation: 30 Jun 2002
Handle: RePEc:wbk:wbrwps:2856
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  1. Caprio, Gerard, Jr. & Honohan, Patrick, 1999. "Beyond capital ideals : restoring banking stability," Policy Research Working Paper Series 2235, The World Bank.
  2. Agenor, Pierre-Richard & Aizenman, Joshua & Hoffmaister, Alexander W., 2004. "The credit crunch in East Asia: what can bank excess liquid assets tell us?," Journal of International Money and Finance, Elsevier, vol. 23(1), pages 27-49, February.
  3. Linda S. Goldberg, 2001. "When is U.S. bank lending to emerging markets volatile?," Staff Reports 119, Federal Reserve Bank of New York.
  4. Ben S. Bernanke, 1983. "Non-Monetary Effects of the Financial Crisis in the Propagation of the Great Depression," NBER Working Papers 1054, National Bureau of Economic Research, Inc.
  5. Beck, Thorstein & Lundberg, Mattias & Majnoni, Giovanni, 2001. "Financial intermediary development and growth volatility : do intermediaries dampen or magnify shocks?," Policy Research Working Paper Series 2707, The World Bank.
  6. Bruce C. Greenwald & Joseph E. Stiglitz, 1988. "Financial Market Imperfections and Business Cycles," NBER Working Papers 2494, National Bureau of Economic Research, Inc.
  7. World Bank, 2001. "Finance for Growth : Policy Choices in a Volatile World," World Bank Publications, The World Bank, number 13895.
  8. Joe Peek & Eric S. Rosengren, 1996. "Bank Regulatory Agreements and Real Estate Lending," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 24(1), pages 55-73.
  9. Allen N. Berger & Robert DeYoung & Hesna Genay & Gregory F. Udell, 2000. "Globalization of financial institutions: evidence from cross-border banking performance," Finance and Economics Discussion Series 2000-04, Board of Governors of the Federal Reserve System (U.S.).
  10. Jordan, John S. & Peek, Joe & Rosengren, Eric S., 2000. "The Market Reaction to the Disclosure of Supervisory Actions: Implications for Bank Transparency," Journal of Financial Intermediation, Elsevier, vol. 9(3), pages 298-319, July.
  11. Caprio, Gerard & Honohan, Patrick, 2001. "Finance for Growth: Policy Choices in a Volatile World," MPRA Paper 9929, University Library of Munich, Germany.
  12. Jennifer S. Crystal & B. Gerard Dages & Linda S. Goldberg, 2001. "Does foreign ownership contribute to sounder banks in emerging markets? the Latin American experience," Staff Reports 137, Federal Reserve Bank of New York.
  13. Ferri, Giovanni & Liu, Li-Gang & Majnoni, Giovanni, 2001. "The role of rating agency assessments in less developed countries: Impact of the proposed Basel guidelines," Journal of Banking & Finance, Elsevier, vol. 25(1), pages 115-148, January.
  14. Clarke, George R. G. & Cull, Robert & Martinez Peria, Maria Soledad, 2001. "Does foreign bank penetration reduce access to credit in developing countries"evidence from asking borrowers," Policy Research Working Paper Series 2716, The World Bank.
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