Wednesday, November 4, 2020 | 2:00pm - 3:30pm | ZOOM, Room 337

Abstract

China implemented Basel III in 2013 and tightened bank capital regulations.  Using confidential loan-level data, merged with firm-level data, we show that the new regulations reduced bank risk-taking following monetary policy easing.  Banks respond to a balance-sheet expansion by raising the share of lending to low-risk borrowers, and in particular, to state-owned enterprises (SOEs) that receive high credit ratings under government guarantees.  We construct a two-sector general equilibrium model with bank portfolio choices and show that a shift in bank lending toward SOEs following monetary policy easing reduces aggregate productivity, creating a tradeoff between financial stability and allocative efficiency.