Do Exposures to Sagging Real Estate, Subprime or Conduits Abroad Lead to Contraction and Flight to Quality in Bank Lending at Home?

Abstract

We investigate how differential exposures by German banks to the US real estate market during the recent financial crisis affect their corporate lending in Germany. Using unique bank-level exposure data, we distinguish between three different types of bank exposures, i.e. direct exposure to the US real estate sector, direct exposure to subprime lenders in the US, and indirect exposure through the liquidity provided to ABCP conduits. We find that banks with a higher exposure to the US real estate sector and to conduits cut their lending to German firms by more following a decrease in US home prices than banks that do not have such an exposure. Moreover, these banks then also shift their lending to industry-region combinations with lower insolvency ratios. Hence possible losses abroad shift bank lending at home, and the size of this effect depends on the type and the degree of exposure the bank has.