Banking Competition, Interbank Business Expansion and Bank Credit Risk

Abstract

With the competition becoming more intense, scarcity of deposits makes it reasonable for commercial banks to increasingly depend on interbank liability. As consequence, a large amount of interbank debt flows to shadow banks through the channel of interbank investment and financial products with the motive of regulatory arbitrage, which increases interbank leverage. Previous studies have shown that the expansion of interbank asset and interbank debt has an impact on the effect of monetary policy and liquidity risks, but seldom discuss whether and how interbank leverage influences the credit risk of traditional loans. This paper puts forward that the essence of interbank leverage rising is the expansion of interbank sha- dow credit. Under the analysis on how interbank shadow credit affects the credit risk of traditional loans through the channel of financing structure, investment efficiency, regulatory evasion and risk-taking, we empirically examine the relationship between interbank leverage and the credit risk of traditional loans by means of OLS and IV/2SLS estimation, and find that the effect of interbank leverage on credit risk is negative as interbank leverage increases. However, when leverage reaches a certain level, the impact of interbank leverage on credit risk becomes positive. Furthermore, we analyze the heterogeneous effect that interbank leverage has on the credit risk of traditional loans when the size or type of banks is distinguished. By means of threshold regression and regression by group, we conclude that if taking no account of shadow credit caused by NCD, the rise of interbank leverage reduces the credit risk of the five biggest state-owned banks, city commercial banks and rural commercial banks but reinforces the credit risk of joint-stock banks; Nevertheless, when taking NCD into consideration, except that the impact of interbank leverage on the credit risk of the five biggest state-owned banks is negative, the rise of interbank leverage increases the credit risk of other banks, including joint-stock banks, city commercial banks and rural commercial banks. At last, we analyze that interbank shadow credit offsets the effect of monetary policy. The empirical results also show that the higher the level of inter- bank leverage expansion, the stronger the hedging effect of monetary policy. This paper contributes to the following aspects: Firstly, it expands the literature on how shadow credit expansion affects the liquidity risk to how it affects the traditional credit risk. Secondly, it proves that the inter- bank certificates of deposits have a significant incentive effect on the traditional credit risk of city/rural commercial banks. At the same time, it shows that MPA’s new policy will bring the interbank certificates of depo- sits into the assessment of the proportion of interbank liability to help to improve the quality of risk supervision, which is of practical significance to understand the interbank risk of city/rural commercial banks, and then to implement differentiated risk supervision strategies. Thirdly, based on the perspective of commercial banks’ interbank business, this paper explores the factors that inhibit the transmission of monetary policy, which provides a logical basis for understanding how regulatory arbitrage under the interbank channel impacts the regulation of monetary policy and thus improves the quality of monetary policy regulation.