Bank Competition and the Effects of Macroprudential Policy on Procyclicality of Lending

Despite the extensive debate on the effects of bank competition on risk-taking and procyclicality, there is no evidence of its role in the effects of macroprudential policy on loans’ growth and on the sensitivity of lending to the business cycle. We contribute to the literature by investigating the impact of bank competition on the effects of individual macroprudential tools in a sample covering over 70,000 bank-level observations in 109 countries from 2004 to 2015. Our results are in line with the competition-fragility hypothesis and suggest that increased market power is associated with enhanced loans’ growth in countries in which macroprudential policy is effective in reducing credit growth and with decreased credit growth for instruments that are not effective in diminishing lending. We also find support for the view that increased market power in the banking sector helps to achieve reduced sensitivity of lending to the business cycle in countries that apply cyclical macroprudential instruments due to increased risk-taking in the banking sector. Moreover, we show that, for countries in which macroprudential policy is associated with reduced procyclicality of lending, some degree of market power is beneficial for bank lending, as it tames the excessive countercyclicality of credit.