Fintech regulation and bank liquidity creation: Evidence from China

Abstract

Fintech regulation serves as a vital signal for prudential regulation, helping to mitigate market failures caused by Fintech innovation. Using China's 2016 Implementation Plan for the Specific Rectification of Internet Financial Risks, we employ a difference-in-differences identification strategy to investigate the impact of Fintech regulation on banks' liquidity creation. Our paper reveals the following findings: Fintech regulation triggers deposit inflows and lowers reliance on interbank funds, strengthening banks' deposit franchises and risk-transforming functions. By enhancing banks' ability to convert liquid liabilities into illiquid assets, Fintech regulation facilitates liquidity creation, which is crucial for the smooth functioning of the financial system. After controlling for other major regulatory and government-led initiatives, the incremental effect of Fintech regulation on Chinese banking liquidity creation is still apparent. By demonstrating the benefits of Fintech regulation, our research provides a valuable reference for policymakers.