Bank Capital and Monetary Policy Transmission in India

Muduli, Silu and Behera, Harendra (2020): Bank Capital and Monetary Policy Transmission in India. Published in: Macroeconomics and Finance in Emerging Market Economies (24 May 2021)

Abstract

This paper examines the role of bank capital in monetary policy transmission in India during the post-global financial crisis period. Empirical results show that banks with higher capital to risk-weighted assets ratio (CRAR) raise funds at a lower cost. Additionally, banks with higher CRAR transmit monetary policy impulses smoothly, while stressed assets in the banking sector hinder transmission. Recapitalization to raise CRAR can improve transmission; however, CRAR above a certain threshold level may not help as the sensitivity of loan growth to monetary policy rate reduces for banks with CRAR above the threshold. Therefore, it can be concluded that monetary policy can influence credit supply of banks depending on their capital position.

• Item Type: MPRA Paper
• Language: English
• Keywords: Monetary policy transmission, bank capital and bank lending
• Subjects: E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E44 - Financial Markets and the Macroeconomy; E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E51 - Money Supply ; Credit ; Money Multipliers; E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E52 - Monetary Policy

References

Admati, A., & Hellwig, M. (2014). The Bankers’ New Clothes: What’s Wrong with Banking and What to Do about It-Updated Edition. Princeton University Press.

Adrian, T., Boyarchenko, N., & Shin, H.-S. (2015). The cyclicality of leverage (Tech. Rep.). New York, NY: Staff Report, Federal Reserve Bank of New York.

Altunbas, Y., Gambacorta, L., & Marques-Ibanez, D. (2010). Bank risk and monetary policy. Journal of Financial Stability, 6(3), 121–129.

Altunbas, Y., Gambacorta, L., & Marques-Ibanez, D. (2012). Do bank characteristics influence the effect of monetary policy on bank risk? Economics Letters, 117(1), 220–222.

Arellano, M., & Bond, S. (1991). Some tests of specification for panel data: Monte Carlo evidence and an application to employment equations. The Review of Economic Studies, 58(2), 277–297.

Bernanke, B. S., Lown, C. S., & Friedman, B. M. (1991). The credit crunch. Brookings papers on economic activity, 1991(2), 205–247.

Bhardwaj, A., Subramanian, K., & Tantri, P. L. (2015). Relationship Banking and Monetary Policy Transmission: Evidence from India (No. 2691556). Indian School of Business Working Paper.

Bhatia, S. (2019). Bank capital structure and monetary policy transmission: Evidence from India. 15th Annual Conference on Economic Growth and Development, Indian Statistical Institute, New Delhi.

Blundell, R., & Bond, S. (1998). Initial conditions and moment restrictions in dynamic panel data models. Journal of Econometrics, 87(1), 115–143.

Bolton, P., Freixas, X., Gambacorta, L., & Mistrulli, P. E. (2016). Relationship and Transaction Lending in a Crisis. The Review of Financial Studies, 29(10), 2643–2676.

Borio, C., & Zhu, H. (2012). Capital regulation, risk-taking and monetary policy: a missing link in the transmission mechanism? Journal of Financial Stability, 8(4), 236–251.

Carlson, M., Shan, H., & Warusawitharana, M. (2013). Capital ratios and bank lending: A matched bank approach. Journal of Financial Intermediation, 22(4), 663–687.

Ellis, D. M., & Flannery, M. J. (1992). Does the debt market assess large banks, risk?: Time series evidence from money center CDs. Journal of Monetary Economics, 30(3), 481–502.

Estrella, A. (2004). The cyclical behavior of optimal bank capital. Journal of Banking & Finance, 28(6), 1469–1498.

Gambacorta, L., & Shin, H. S. (2018). Why bank capital matters for monetary policy. Journal of Financial Intermediation, 35, 17–29.

Hansen, B. E. (1996). Inference when a nuisance parameter is not identified under the null hypothesis. Econometrica: Journal of the Econometric Society, 413–430.

Hansen, B. E. (1999). Threshold effects in non-dynamic panels: Estimation, testing, and inference. Journal of Econometrics, 93(2), 345–368.

Hansen, L. P. (1982). Large sample properties of generalized method of moments estimators. Econometrica: Journal of the Econometric Society, 50(4), 1029–1054.

Kapur, M., & Behera, H. K. (2012). Monetary transmission mechanism in India: A quarterly model (No. 09). Reserve Bank of India Working Paper.

Kashyap, A. K., & Stein, J. C. (1995). The impact of monetary policy on bank balance sheets. In Carnegie-rochester conference series on public policy (Vol. 42, pp. 151–195).

Khundrakpam, J. K., & Jain, R. (2012). Monetary policy transmission in India: A peep inside the black box. Reserve Bank of India Working Paper No. 11/2012.

Kishan, R. P., & Opiela, T. P. (2006). Bank capital and loan asymmetry in the transmission of monetary policy. Journal of Banking & Finance, 30(1), 259–285.

Markovic, B. (2006). Bank capital channels in the monetary transmission mechanism.

Mishra, P., Montiel, P., & Sengupta, R. (2016). Monetary transmission in developing countries: Evidence from India. In Monetary Policy in India (pp. 59–110). Springer.

Pandit, B. L., Mittal, A., Roy, M., & Ghosh, S. (2006). Transmission of monetary policy and the bank lending channel: analysis and evidence for India. Development Research Group Study, 25.

Thakor, A. V. (2005). Do Loan Commitments Cause Overlending? Journal of Money, Credit and Banking, 37(6), 1067–1099.

Van den Heuvel, S. (2002). Does bank capital matter for monetary transmission? Economic Policy Review, 8(1), 259–265.

Verma, R., & Herwadkar, S. (2019). Bank recapitalisation and credit growth: The Indian case (No. 97394). Munich Personal RePEc Archive.

Wang, Q. (2015). Fixed-effect panel threshold model using Stata. The Stata Journal, 15(1), 121–134.

Watanabe, W. (2007). Prudential regulation and the “credit crunch”: Evidence from Japan. Journal of Money, Credit and Banking, 39(2-3), 639–665.