Euro area bank lending restricted by sovereign debt exposure, say DNB researchers

Syndicated lending by European banks with sizeable balance sheet exposures to impaired sovereign debt was negatively affected after the start of the euro area sovereign debt crisis, a research paper by the Netherlands Bank (DNB) shows.

In their paper: The impact of sovereign debt exposure on bank lending: Evidence from the European debt crisis, Alexander Popov and Neeltje Van Horen write: "Our empirical analysis confirms that there is a direct link between deteriorating creditworthiness of foreign sovereign debt and lending by banks holding this debt on their balance sheet."

Using loan-level data, the authors found that the overall reduction in lending following the eruption of the crisis was not driven by changes in borrower demand or quality or by other types of shocks to bank balance sheets.

The paper, moreover found that "carry trade-type behaviour by a number of banks loading on high-yield debt" may have arrested the slowdown in overall lending in the initial stages of the crisis. The slowdown in lending was lower, however, "for banks that reduced their debt holdings in the later stages of the crisis, pointing to potential positive effects of central bank assets purchase programs." It also observed "a reallocation of [lending] away from foreign markets" - notably the US.