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Bank exposures and sovereign stress transmission

The authors investigate the determinants of banks’ sovereign exposures and their effects on lending during and after the crisis. Bank exposures significantly amplified the impact of sovereign stress on bank lending to domestic firms, as well as on lending by foreign subsidiaries of stressed-country banks to firms in non-stressed countries.

Review of Finance, Volume 21, Issue 6, 1 October 2017
Pages 2103–2139

Published: 17 August 2017
Source: Review of Finance

Authors:
Carlo Altavilla, European Central Bank and CSEF
Marco Pagano, Universita` di Napoli Federico II
Saverio Simonelli, CSEF

Bank exposures and sovereign stress transmission

Abstract:
Using novel monthly data for 226 euro-area banks from 2007 to 2015, the authors investigate the determinants of banks’ sovereign exposures and their effects on lending during and after the crisis. Public, bailed-out and poorly capitalized banks responded to sovereign stress by purchasing domestic public debt more than other banks, consistent with both the “moral suasion” and the “carry trade” hypothesis. Public banks’ purchases grew especially in coincidence with the largest ECB liquidity injections, which therefore reinforced the “moral suasion” mechanism. Bank exposures significantly amplified the impact of sovereign stress on bank lending to domestic firms, as well as on lending by foreign subsidiaries of stressed-country banks to firms in non-stressed countries. Altogether, the evidence connects this amplification effect and its cross-border transmission to the moral suasion exerted by domestic governments on banks during the crisis.

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