Tracing the Impact of Central Bank Liquidity Infusions on Financially Constrained Banks: Evidence from a Natural Experiment
The recent financial crisis highlighted the role of bank's capital structure in transmitting financial market shocks to the real economy. Using the individual bank’s balance sheet data I set up a natural experiment framework in order to investigate the impact of substantial foreign borrowing by Russian banks on their lending policies before and after the collapse of the Lehman Brothers, which represented a sudden-stop for the Russian banking sector. Having identified a sample of banks that relied on foreign borrowing through the issuance of Eurobonds and syndicated loans I study their lending and funding policies as a result of a sudden-stop. My other objective is to investigate how effective was substantial quantitative easing conducted by the Central Banks of Russia (CBR) through repo auctions with domestic banks in terms of its impact on lending policies of financially constrained banks.
In order to motivate this research one needs to demonstrate that the Russian banking system relied heavily on external borrowing from international capital markets and that a sudden-stop was unanticipated. According to the CBR estimates foreign liabilities of the Russian banking sector represented 19% of total liabilities in August 2008, while individual deposits represented 24.5% of bank's liabilities. Also De Haas and van Horen (2008) found that Russian borrowing on international syndicated loans market represented 33% of the total global syndicated borrowing in 2005-2008, after the US and the Euro-15 countries were excluded.
Regarding the unanticipated nature of the recent crisis studies by Taylor and Williams (2009) and McAndrews et al. (2008) report that prior to Lehman Brothers’ collapse on September 15th 2008 the liquidity risk premium and credit risk premia was stable. After Lehman sovereign CDS spreads exhibited a sharp increase, which effectively shut down the emerging economies from international capital markets. This evidence suggests that the Lehman’s bankruptcy was unanticipated by financial markets.
Rajan and Tokatlidis (2005) argue that, in the case of a sudden stop, emerging market economies with dollarized banking systems experience a dollar shortage. In this respect, my study contributes to large body of literature that investigates sudden stops in an emerging market context by looking at massive non-IMF interventions by domestic central bank.
In a cross-country setting Demirguc-Kunt et al. (2006) examine how banks manage their credit portfolios during the crisis and examine effectiveness of anti-crisis policies. Giannetti and Simonov (2009) using the data on individual Japanese banks investigate the impact of government recapitalization of banks on their clients during the crisis. My work focuses on another form of banking system bailout – liquidity infusions by the central bank through repo auctions. This research contributes to the literature that seeks to answer a question: what are the real consequences of government interventions and which form of interventions is more effective?