Trade credit, bank lending and monetary policy transmission

Abstract

This paper investigates the role of trade credit in the transmission of monetary policy. Most
models of the transmission mechanism allow firms to access only financial markets or bank
lending according to some net worth criterion. In our model we consider external finance from
trade credit as an additional source of funding for firms that cannot obtain credit from banks.
We predict that when monetary policy tightens there will be a reduction in bank lending
relative to trade credit. This is confirmed with an empirical investigation of 16,000 UK
manufacturing firms.

Keywords: Trade credit, Bank lending, Monetary policy transmission, Credit channel

JEL Classification: E44, E52