A0729
Title: The nonlinear effects of shocks to bank capital vulnerability in Euro area countries
Authors: Sharada Davidson - University of Strathclyde (United Kingdom) [presenting]
Diego Moccero - European Central Bank (Germany)
Abstract: When capital in the banking system is depleted, financial intermediation is impaired, and the broader economy suffers. However, the degree to which financial intermediation is weakened likely depends on the financial and macroeconomic environment. With a limited number of observations, existing macroeconometric studies assume that the impact of bank capital shocks is linear or nonlinearities are examined using single-equation panel data models which ignore feedback effects to the macroeconomy. The focus is on the nonlinear propagation of bank capital shocks by estimating three Bayesian Panel Threshold VAR models with macroeconomic and aggregate banking variables for Germany, France, Italy and Spain. Evidence shows that when banks become vulnerable to a depletion in capital, bank lending supply and economic activity are adversely affected. Crucially, these effects are stronger when banks are already highly vulnerable to losing capital, and the policy interest rate is low. The state of the business cycle, however, does not appear to amplify the impact of bank capital shocks. We conclude that the financial environment (bank vulnerability and the monetary policy stance) is more important than the macroeconomic environment (business cycles) in amplifying adverse bank capital shocks.
