International Liquidity Sharing: Evidence from Financial Crises
affiliation not provided to SSRN
March 21, 2011
AFA 2012 Chicago Meetings Paper
Abstract This paper shows that international spillovers arise from bank linkages that transmit shocks across markets. This in turn can distort regional risk-sharing patterns. I model and then test the bank's liquidity sharing mechanism using a new measure for bilateral bank holdings constructed from over 90,000 holding company level linkages. I consider funding shocks originating from financial crises and analyze the resulting dynamics in lending at affiliate branches. A one standard deviation increase in crisis exposure results in a 1.5% contraction in lending at branches outside of the crisis country. I also find that banks with non-depository assets in the crisis country face capital shocks that can distort lending incentives. However, greater liquidity constraints arise if banks also raise deposits in the crisis country. These institutions face funding as well as capital shocks which induce additional contractions in lending. Then using the model's prediction that greater deposit stability can amplify capital constraints while dampening liquidity constraints, I construct a triple differences identification strategy to show that credit contractions follow the geography of banking at the micro bank and macro aggregate level. This strategy not only identifies the banking channel but also provides the first empirical evidence that regulatory capital constraints can distort cross-
country risk-sharing dynamics.
Number of Pages in PDF File: 58working papers series
Date posted: March 23, 2011
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