Proceedings of Paris Economics, Finance and Business Conference
13 - 15 April 2015, Crowne Plaza Hotel Republique, Paris, France, ISBN: 978-1-922069-73-3
Credit and External Bank Position in the Euro Area: An
Empirical Investigating Using Aggregation Data
Jingyang Liu
The financial crisis and sovereign debt crisis have shown that cross border bank
position and the excess amount of credit in Europe are strongly correlated. These
correlations tend to increase since the establishment of euro area and show a regime
shift during financial crisis, which may give rise to financial fragility and
macroeconomic imbalance. In this paper, on one hand, we focus on disentangling the
effect of cross border euro area bank positions, either to euro area countries or to the
rest of the world, on the creation of domestic private credit in the euro area. One the
other hand, we focus on figuring out from which side the effect comes, by involving
bank capital and reserve growth which affect the creation from supply side and
capacity utilization which affect the creation from demand side. The analysis allows
an assessment of how to avoid the macroeconomic imbalance by either monetary
prudence or bank regulation. Our empirical analysis uses external bank positions and
domestic private credit for a sample of euro area (based on 10 original countries
except Luxemburg and Greece) over the period: 1999Q1 -- 2013Q3. As in most
literatures studying the euro area macro-economy issue using constructed data series,
one important problem is the choice of the method for aggregating the national data.
We apply GDP weighted approach instead of directly adding up the stock value of
credit even though the series of 10 member countries are expressed by a single
currency, to keep consistent with the method of the aggregation of long term bank
interest rate denoted by 10 year government bond yield. Our further analysis
proceeds in three steps. First, we carry out P.Perron(1997) and Clemente-MontanesReyes(1998) test for unit root test, which allow a single structure break in time series.
Considering the test accept the null hypothesis of unit root, we shift to use Augmented
Dickey-Fuller test and Phillips-Perron test and find out the data series are all
integrated at the order one. Second, we forward our analysis to cointegration test by
applying Gregory and Hansen(1996) test which allows for regime shift in the model.
To figure out the identification issue, we add the supply factor and demand factor to
the specification separately to estimate cointegration equation. Third, we go for VEC
model with regime shift as exogenous variable and impulse function to analyze the
short run relationship. We find, in general, countries/area that attract more
funding/liability have a higher propensity to engage in excessive domestic credit
creation. Compared with the effect of net foreign liability to the area excluding euro
area on credit creation, the effect power of net position to the euro area is relatively
low. While specifically speaking, the effect property is different prior to 2008Q3 and
post-2008Q3 because of the crush change of economic environment. Overall, our
results suggest our policymakers should focus on regulating cross board bank
activities to prevent deteriorating macroeconomic imbalance—the increasing excess
amount of domestic private credit.
The Field of research: a. Economics---financial economics b. banking
________________________________________________________________________
Affiliation: School of Economics, Utrecht University. Visiting Address: Kriekenpitplein 21-22, 3584 EC
Utrecht. Postal address: PO Box 80125, 3508 TC Utrecht, the Netherlands. Email: J.Liu2@uu.nl