Working Paper: NBER ID: w22335
Authors: Yusuf Soner Baskaya; Bryan Hardy; Ebnem Kalemlizcan; Vivian Yue
Abstract: We use an exogenous fiscal shock to identify the transmission of government risk to bank lending due to banks holding government bonds. We illustrate with a theoretical model that for banks with higher exposure to government bonds, a higher sovereign default risk implies lower bank net worth and less lending. Our empirical estimates confirm the model’s predictions. The exogenous change in sovereign default risk of Turkish government debt as a result of the 1999 earthquake impacts banks whose balance sheets were exposed more to government bonds. The resulting lower bank net worth translates into lower credit supply. We rule out alternative explanations. Our estimates suggest this channel can explain half of the decline in bank lending following the earthquake. This underlines the importance of the bank balance-sheet channel in transmitting a higher sovereign default risk to reduced real economic activity.
Keywords: Sovereign Risk; Bank Lending; Fiscal Shock; Earthquake; Turkey
JEL Codes: E0; F0; G0; G2; G21
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| 1999 Marmara earthquake (H12) | sovereign risk (F34) |
| sovereign risk (F34) | banks' net worth (G21) |
| banks' net worth (G21) | bank lending (G21) |
| 1999 Marmara earthquake (H12) | banks' net worth (G21) |
| 1999 Marmara earthquake (H12) | bank lending (G21) |
| sovereign risk (F34) | reduced credit supply (E51) |
| banks with higher exposures to government bonds (F65) | decline in net worth (D14) |
| decline in net worth (D14) | constrained lending capacity (G21) |