Sunday, December 1, 2013

Do central banks influence bank lending? - Eugène Fama analyzes the lending channel

The economic concept of the lending channel says that central banks can influence bank credit supply to the real economy through monetary policy. More specifically, if central banks lower interest rates (either directly or through open market transactions), they limit banks' customer deposits. This, in turn, causes banks lending less to the real economy. This is, at least the theory.

In his recent article – 'Was there ever a lending channel?', Eugène Fama says (more politely) that the lending channel theory is wrong. He presents data on US commercial banks' assets and liabilites since 1952, and, on its basis, concludes that profit-maximizing banks routinely use multiple sources of financing and simply offset declining deposits by other sources of financing.

I have compiled his data and made a dashboard. A more convenient view of this dashboard can be found here.

Apart from the lending channel, the data provides interesting insights in U.S. commercial banks' balance sheets, namely

  • spectacularly declining treasury securities;
  • increasingly important mortgages;
  • increasing and then decreasing loans to businesses;
  • massively declining checkable deposits;
  • substantially increasing small time and savings deposits.

Now back to the lending channel? Is Fama's conclusion good or bad news? A little bit of both in my view. It is, on the one hand, a bit worrisome, as I am wondering who can then influence the real economy if not central banks. On the other hand, it's reassuring because it alleviates to some extent the importance of the discussion about the democratic anchorage of central banks, if they are finally less influential than we thought.


Eugène Fama – Was there ever a lending channel? You can download the article here.