Adapting lending policies in a “negative-for-long” scenario

Abstract

What is the long-term impact of negative interest rates on bank lending? To answer this question, we construct a unique summary measure of negative rate exposure by individual banks based on exclusive survey data and banks’ balance sheets and couple it with the credit register of Spain and firms’ balance sheets to identify this impact on the supply of credit to firms. We find that only when deposit rates reached the zero lower bound (ZLB) did banks adversely affected by the negative interest rates decrease their supply, especially when undercapitalized and lending to risky firms. Hence, the adverse effects of the negative rates on banks’ intermediation capacity only took place after a protracted time period. Our study highlights the role of the initial conditions, i.e., whether deposit rates were well above the ZLB or close to it in the different economies of the euro area when negative interest rates were introduced, as well as the importance of adequate bank capitalization. However, we find no evidence of funding constraints on firms due to negative rates at the end of 2019.

Keywords: negative interest rates, negative for long, zero lower bound, lending policies, bank capital ratio, risk taking.

JEL Classification: G21, E52, E58