U.S. Monetary Policy and Emerging Markets Credit Cycles

Abstract

Foreign banks’ lending to firms in emerging market economies (EMEs) is large and denominated predominantly in U.S. dollars. This creates a direct connection between U.S. monetary policy and EME credit cycles. We estimate that over a typical U.S. monetary easing cycle, EME borrowers experience a 32-percentage-point greater increase in the volume of loans issued by foreign banks than do borrowers from developed markets, followed by a fast credit contraction of a similar magnitude upon reversal of the U.S. monetary policy stance. This result is robust across different geographies and industries, and holds for U.S. and non-U.S. lenders, including those with little direct exposure to the U.S. economy. EME local lenders do not offset the foreign bank capital flows, and U.S. monetary policy affects credit conditions for EME firms, both at the extensive and intensive margin. Consistent with a risk-driven credit-supply adjustment, we show that the spillover is stronger for riskier EMEs, and, within countries, for higher-risk firms.

Keywords: Global Business Cycle, Monetary Policy, Emerging Markets, Reaching for Yield

JEL Classification: E34, E52, F34, F44, G21