Lending Restrictions Research Articles

Environmental violations, refinancing risk, and the corporate bond cost in China

AbstractThis paper examines the relationship between environmental violations and the cost of corporate bonds, and further analyzes whether refinancing constraints, the lending restrictions on penalized firms, are an important channel through which environmental violations affect the cost of corporate debt financing in China. Using the manually collected environmental violation events from 2008 to 2020, we find that the bond cost of firms violating environmental regulations increases significantly after being penalized. The finding is robust to potential sample selection bias and endogeneity problems. Furthermore, we find that the effect of environmental violations on the cost of corporate bonds is more profound in short‐term debt‐dependent firms and can be alleviated by the internal financing dependence. These results confirm that the refinancing risk arising from China's green loan policy on pollution‐intensive firms plays a key role in the relation between environmental violations and the cost of capital in the firms. In the context of the growing concerns of global society about climate change, our findings have great implications for pollution‐intensive firms, bond investors, and regulatory authorities in emerging economies to manage the increasing environmental risk.

The Effect of Investor Credit Supply on Housing Prices

What is the effect of investor credit supply on housing prices? We provide evidence on this question using quasi-experimental variation in credit supply to investors caused by two macroprudential policies implemented in Australia. The first policy placed a bank-level cap on mortgage credit growth to investors while the second policy placed a bank-level cap on the share of interest-only mortgage lending. We show that the first policy caused a sharp and large drop in credit growth to investors relative to owner-occupiers, while the second policy caused a modest relative decline in credit growth for investors, who disproportionately use interest-only loans. We use variation in the investor ownership share across regions and dwelling types to identify the effect of investor credit supply on housing prices, rents and transaction volumes. We find no significant effect on the growth rate of housing prices caused by the first policy. However, there was a relative rise in the price of investor housing following the second policy, which is consistent with the use of interest-only lending being a more binding constraint for owner-occupiers than investors. There is evidence that the lending restrictions lowered transaction volumes but rents were unaffected. Our findings are consistent with models assuming a largely unconstrained housing rental sector.

The varying shadow of China's banking system

The rapid rise of shadow banking activities in China since 2009 has attracted a great deal of attention in both academia and policy circles. Most existing studies and commentary on China's shadow banking have treated it as a recent phenomenon that appeared after the Global Financial Crisis and China's response to it. In this paper, I argue that shadow banking is not a new phenomenon; it has always been a part of China's financial system since the 1980s, and arose from the need to get around various lending restrictions imposed by the central government on banks. I also emphasize that there are two types of shadow banking activities, those initiated by banks and those initiated by local governments or state-owned enterprises. I provide evidence suggesting that the shadow banking activities initiated by banks prior to 1996 helped directing credits to the more productive non-state sector and were efficiency enhancing. In recent years, however, I find that the shadow banking loans have a positive effect on real estate investments only, and their effects on investments by private firms outside the real estate sector have been negative.

Welfare Implications of Credit Rationing for Financial Consumers: An Empirical Investigation on the Case of the Korean Residential Mortgage Sector

Credit rationing through borrowing constraints has long been an important research topic in the literature, in the context of managing financial risks (i.e., financial stability) as well as of expanding financial service to more marginal borrower segments (i.e., financial inclusion). This study empirically investigates the role of borrowing constraints in the residential mortgage lending sector in Korea, by utilizing a discrete tenure choice model to test the constraining effects of two particular lending restrictions on households’ home owning decisions - the wealth and income constraints as measured by the maximum loan-to-value (LTV) ratio and that of debt-to-income (DTI) ratio. Using the household-level micro data from Korea, we report that: the lending restrictions exhibit negative effects on the propensity to own; those constraining effects are also shown to increase for younger borrower cohorts; and, the magnitude of the effect of wealth constraint is larger than that of the income constraint, which is consistent with the findings from the prior studies. Using the empirical findings, we discuss policy implications of relevancy, in particular, as to how to balance between two often competing policy objectives - ensuring financial stability and extending financial inclusion - in the context of the residential mortgage lending sector in Korea.

Exploring Young Europeans’ Homeownership Opportunities

Even before the 2008/9-crisis but certainly afterwards, trends in labour, housing and mortgage markets combined with welfare reform, making it more difficult for each new cohort of young Europeans (25-34) to complete the transition to ‘residential independence’, particularly to become a homeowner. This paper explores ‘trends in homeownership opportunities’, using data from EU-SILC (2005-2018). It takes a broader perspective by exploring trends in its social selectivity, as well as changes in the ‘attributes’ of homeownership over time. Young adults’ homeownership opportunities have declined almost everywhere in Europe, but to varying extents. Furthermore, a more socially selective group of young homeowners seems to be entering properties of lower quality in locations with fewer services. Deteriorating homeownership opportunities are strongly associated with mortgage lending restrictions, indicating that trends in housing and broader financial markets/policies are important explanatory factors. I also find indications that the transition to homeownership is being pushed beyond the commonly-used age-threshold of 34 years.

How effective is macroprudential policy? Evidence from lending restriction measures in EU countries

This 22I would like to thank Stijn Claessens, Miguel Segoviano, Philippe Wingender and seminar participants at the IMF's European Department, European Central Bank, Deutsche Bundesbank and Bank of Finland for helpful comments and suggestions. I would also like to thank the editor - Henry Pollakowski - and the anonymous referee for valuable suggestions that helped improve the paper. The usual disclaimer applies.paper assesses the effectiveness of lending restrictions measures, such as loan-to-value and debt-service-to-income ratios, in affecting developments in house prices and credit. We use data on 99 lending standard restrictions implemented in 28 EU countries over 1990–2018. The results suggest that lending restriction measures are generally effective in curbing house prices and credit. However, the impact is delayed and reaches its peak only after three years. In addition, the impact is asymmetric, with tightening measures having weaker association with target variables compared to loosening measures. The association is stronger in countries outside of euro area and for legally-binding measures and measures involving sanctions. The results have practical implications for macroprudential authorities.

The Effect of Interfirm Financial Transactions on the Credit Risk of Small and Medium-Sized Enterprises

SummaryDespite the recognized importance of interfirm financial links in determining a company’s performance, only a few studies have incorporated proxies for interfirm links in credit risk models, and none of these use real financial transactions. We estimate a credit risk model for small and medium-sized enterprises, augmented with information on observed interfirm financial transactions. We exploit a novel data set on about 60000 companies based in the UK and their financial transactions over the years 2015 and 2016. We develop several network-augmented credit risk models and compare their prediction performance with that of a conventional credit risk model that includes only a set of financial ratios. We find that augmenting a default risk model with information on the transaction network makes a significant contribution to increasing the default prediction power of risk models built specifically for small and medium-sized enterprises. Our results may help bankers and credit scoring agencies to improve the credit scoring of these companies, ultimately reducing their propensity to apply excessive lending restrictions.

Why Does the Propensity to Home Ownership Vary?: Focusing on the Role of Borrowing Constraints

The propensity to own (rather than to rent) primary residence tends to vary across geographical areas, over time, and among consumer cohorts. This study investigates why that is the case by focusing on the role of borrowing constraints in residential mortgage lending in Korea. In particular, a discrete tenure choice model is established, based on which effects of both wealth and income constraints as indicated by the maximum loan-to-value (LTV) ratio and that of debt-to-income (DTI) ratio are estimated. Using the household-level micro data from Korea, we report that: the lending restrictions exhibit negative effects on the propensity to own, which are also shown to increase for younger borrower cohorts. Despite the fact that the residential mortgage lending sector of the country experienced a substantial growth during our study period (2006 to 2014), the effects of the wealth constraints increased over time, which we interpret as a possible outcome of the more binding lending restrictions combined with the location-based regulatory controls. Using the empirical findings, we provide a preliminary result of our analysis on the optimal LTV level by age cohort.

Bank deserts in the USA and the Great Recession: geography and demographics

PurposeThe purpose of this paper is to identify bank deserts in the USA in 2009 and 2015, separately for inner city, suburban, and rural areas. It also identifies correlations between bank deserts, population characteristics, market competition, and payday lending restrictions, both cross-sectionally and over time.Design/methodology/approachFDIC data on bank office locations are used to identify bank deserts, defined as the 5 percent of census tracts with the greatest distance from the centroid to the nearest office. Those data are matched to both American Community Survey data to identify population characteristics, to a list of states with payday lending prohibitions, and to levels of market competition. An alternative measure of bank deserts corrects for population density. Geography is analyzed, mean characteristics compared, and random effects regressions capture static and dynamic correlates.FindingsPopulation density explains approximately half of bank distance variance. Bank deserts appear more often in southern and western states, and expanded significantly in inner cities while contracting in rural areas. Regression results suggest that African Americans were overall and increasingly likely to live in bank deserts and Native Americans were overall more likely to live in rural bank deserts. Rural poverty is linked to bank deserts, and the effects of competition are complex.Practical implicationsThe space for policy intervention exists in African American inner cities and Native American rural communities.Originality/valueThe relative measure of bank deserts is novel, as are dynamic estimates and random effects analysis of correlates.

Long-run drivers and short-term dynamics of Swedish real house prices

PurposeThis paper aims to assess the long-run drivers and short-term dynamics of real house prices in Sweden for 1986Q1 to 2016Q4. More specifically, the author examines the extent to which real house prices are determined by affordability, demographics and asset price factors.Design/methodology/approachThe author conducts a cointegration analysis and applies a vector autoregression model to examine the long- and short-run responsiveness of Swedish real house prices to a number of key categories of fundamental variables.FindingsThe empirical results indicate that house prices will increase in the long run by 1.04 per cent in response to a 1 per cent increase in household real disposable income, whereas real after-tax mortgage interest and real effective exchange rates show average long-term effects of approximately – 8 and – 0.7 per cent, respectively. In addition, the results show that the growth of real house prices is affected by growth in mortgage credit, real after-tax mortgage interest rates and disposable incomes in the short run, whereas the real effective exchange rate is the most significant determinant of Swedish real house appreciation.Originality/valueThe impact of the two lending restrictions been implemented after the financial crisis – the mortgage cap in October 2010 and the amortization requirement in June 2016 – are ineffective to stabilize the housing market. This suggests that macroprudential measures designed to ease pressure on housing prices and reduce risks to financial stability need to focus on these fundamentals and address the issues of tax deductibility on mortgage rates and the gradual implementation of debt-to-income limits to contain mortgage demand and improve households’ resilience to shocks.

The effect of payday lending restrictions on liquor sales

We exploit a change in lending laws to estimate the causal effect of restricting access to payday loans on liquor sales. Leveraging lender- and liquor store-level data, we find that the changes reduce sales, with the largest decreases at stores located nearest to lenders. By focusing on states with state-run liquor monopolies, we account for supply side variables that are typically unobserved. Our results are the first to quantify how credit constraints affect spending on liquor, and suggest mechanisms underlying some loan usage. These results illustrate that the benefits of lending restrictions extend beyond personal finance and may be large.

The Effect of Payday Lending Restrictions on Liquor Sales

We exploit a change in lending laws to estimate the causal effect of restricting access to payday loans on liquor sales. Leveraging lender- and liquor store-level data, we find that the changes reduce sales, with the largest decreases at stores located nearest to lenders. By focusing on states with state-run liquor monopolies, we account for supply side variables that are typically unobserved. Our results are the first to quantify how credit constraints affect spending on liquor, and suggest mechanisms underlying some loan usage. These results illustrate that the benefits of lending restrictions extend beyond personal finance and may be large.

Overhauling China’s Financial Stability Regulation: Policy Riddles and Regulatory Dilemmas

AbstractChina faces a number of important financial-stability risks. A persistent feature of the Chinese banking sector is the rapid formation of non-performing loans (NPLs) during each business cycle. Moreover, lending restrictions and interest-rate caps (“financial repression”) have, in part, given rise to an ever-expanding shadow-banking sector. The article highlights five cardinal sins within the Chinese financial system: (1) bad lending practices by the regulated sector, (2) lax governance, (3) a shadow-banking system that is dominated by short-term claims with no liquidity backstop, (4) stark lack of transparency in the shadow sector, and (5) very high levels of interconnectedness between the shadow and the regulated sector. The article suggests that some of these problems will be alleviated through a regulatory big bang that would abolish the current silo approach to financial regulation streamlining financial stability and conduct/consumer-protection supervision. Furthermore, we recommend the introduction of a binding and all-encompassing leverage ratio that will require banks to hold much higher capital buffers as a means to boost bank resilience, reduce NPLs, and battle interconnectedness with the shadow sector.

Does regulatory bank oversight impact economic activity? A local projections approach

Existing research generally finds that the magnitude of the effect of supervisory rating shocks on real economic activity is small and short-lived. This finding is puzzling because downgrades, especially substantial ones, often include lending restrictions and thus would be expected to have a strong effect on real activity. We use the local projections approach to investigate whether this anomaly can be explained by nonlinearities or asymmetric effects; our empirical results indicate that they are indeed present. In particular, we find that the effects are asymmetric: bank downgrades lead to a pronounced decline in real activity, while upgrades do not result in its increase. Furthermore, we document the presence of nonlinear effects for the downgrade—but not upgrade—shocks, as their impact increases disproportionately with its size.

A Bundling Argument for Narrow Banking

This study demonstrates a substantial inefficiency in the banking industry resulting from allowing banks to maintain less than a one-hundred percent reserve requirement, thereby exposing depositors to unwanted risks such as investment risks as well as bank runs and bank crises (e.g., the crisis of Scandinavian banks during the early 1990s, and the S&L in the US during the 1980s). This distortion occurs since depositors with uncertain liquidity needs are unable to find riskless no-return banks who will store their money and perform other basic services (ATM, electronic transfers, checkbooks, and bill payment) by charging nominal fees without exposing depositors to any risk. Thus, it is demonstrated that a substantial welfare loss occurs when profit-maximizing banks bundle deposits accounts with risk taking. We further demonstrate that with the rapid development of securities markets a narrow-banking policy will expand consumers’ saving/investment opportunities despite the lending restrictions imposed on the banks. Finally, we demonstrate that deposit insurance policies do not eliminate this inefficiency.

Does Regulatory Bank Oversight Impact Economic Activity? A Local Projections Approach

Existing research generally finds that the magnitude of the effect of supervisory rating shocks on real economic activity is small and short-lived. This is puzzling because corrective actions addressing weaknesses in underwriting and other practices frequently include lending restrictions and thus would be expected to have a stronger effect on real activity. As supervisory actions curb poorly underwritten or uneconomic loans, transmission of macroprudential policy throughout the macroeconomy should be evident in the dynamic responses of the real GDP and other measures of real activity. We use the local projections approach to estimate impulse responses from a vector autoregression (VAR) model. We show that the effect of supervisory stringency shocks is larger than the one estimated with the standard Cholesky structural VAR approach. We find that the effects are asymmetric: bank downgrades lead to a pronounced decline in real activity, while upgrades do not result in its increase. This would follow if the decrease is driven by poor lending practices that would not be expected to resume when the bank is upgraded. The linear framework averages out these effects, overstating the impact of upgrades, and understating that of downgrades. Furthermore, we document the presence of nonlinear effects for the downgrade shocks, as their impact increases disproportionately with its size. Such effects are not observed for upgrade shocks. Finally, we demonstrate that our results are robust to the inclusion of a variety of controls and additional endogenous variables.

One size does not fit all: the need for flexibility in policy responses to slow growth

The root cause behind the Chinese economy’s slowing down in 2012 lies in a “one-size-fits-all” approach to macroeconomic management. This approach must be abandoned if domestic demand is to be effectively boosted. A superior approach would involve the introduction of policies tailored to the specific needs of the economy. It would call for some combination of fiscal and tax measures to stimulate investments, to enhance the profitability of non-Internet-based economic sectors, to ease lending restrictions, and to increase the growth rate of the money supply. There is little risk of inflation in China in the short term, but deflation is a real threat.

Competition in a consumer loan market: Payday loans and overdraft credit

Abstract Using variation in payday lending restrictions over time and across states, we study competition in the market for small, short-term consumer loans. We find that banks and credit unions reduce overdraft credit limits and prices when payday credit, a possible substitute, is prohibited. These findings suggest that depositories respond to payday loan bans by taking less risk, bouncing checks that they would have otherwise covered. The decline in overdraft prices is surprising when viewed in isolation, but sensible given that depositories incur lower credit losses as they limit overdraft coverage. We find some evidence that credit unions’ overdraft activities are more profitable when payday loans are prohibited, consistent with decreased competition. In addition to characterizing the impact of prohibiting payday lending, a common state policy change in recent years, our findings illuminate competition in the small-dollar loan market by highlighting the importance of non-price adjustments to credit offers.

Payday Loan Regulation and Neighborhood Crime

This study examines how a payday loan regulation has affected crime in neighborhoods where payday loans used to be prevalent. The empirical evidence suggests that financially motivated crime declined both in the short and intermediate terms in Chicago after the state regulated the cost of loans, limited repeated borrowing, and prohibited aggressive debt collection. No measurable declines in non-financial crime are detected, neither are changes in foreclosures or other business activities. Several potential mechanisms suggested by the criminology literature are discussed. It was most likely that the lending restrictions alleviated financial damages that could motivate crime in extreme cases.

Does mortgage deregulation increase foreclosures? Evidence from Cleveland

This paper examines how relaxing a local anti-predatory lending law for mortgages affects foreclosures. The empirical evidence is drawn from a quasi experiment in Cleveland, Ohio, where the State Supreme Court repealed an ordinance that imposed lending restrictions on home mortgages of high annual percentage rates (APRs). Empirical evidence shows that observable loan and borrower characteristics were not affected by the repeal, nor did the overall originations appear to increase; yet the APRs were 20% more likely to exceed the regulatory thresholds that were nullified. Moreover, the foreclosure rate increased by six percentage points to 20%.