Front Matter Page

Monetary and Exchange Affairs Department

Contents

• I. Introduction

• II. The Stickiness of Bank Lending Rates and the Financial Structure

  • 1. Definition of lending rate stickiness and some prima facie evidence

  • 2. The relevance of the financial structure

    • a. Adjustment costs and the elasticity of the demand for loans

    • b. Adjustment costs and uncertainty about future money market changes

    • c. Nonprofit maximizing behavior

    • d. Oligopolistic competition models

• III. The Empirical Model

  • 1. Model presentation

  • 2. Model discussion

    • a. The definition of the multipliers

    • b. The relation between the β coefficients and the h multipliers

    • c. The dynamic specification of the model and the two-step estimation procedure

    • d. The relation between multipliers at different lags

    • e. The h multipliers are not observed but estimated

    • f. Nonlinear relation between h and Z

• IV. Step One: Analysis of Stickiness

  • 1. The data

  • 2. Estimation results

    • a. The results are robust with respect to the model specification

    • b. The degree of stickiness is high on average

    • c. There are stronger cross-country differences at short-lags

    • d. Absolute and percentage multipliers

    • e. The relevance of discount rate changes

• V. Step Two: The Determinants of the Stickiness of Lending Rates

  • 1. The structural variables

    • a. Competition within the banking system

    • b. The degree of development of the money market and the openness of the economy

    • c. Banking system ownership

    • d. The degree of development of the financial system

    • e. Additional variables

  • 2. Specification search and preferred equations

    • a. Impact multiplier equation

    • b. Interim and long-term multiplier equations

  • 3. Discussion of the econometric results

    • a. The effect of inflation

    • b. The type of lending rate

    • c. The effect of financial structure

    • d. The role of the discount rate

• VI. Conclusions and Policy Implications

  • 1. Measurement of lending rate stickiness

  • 2. The relevance of structural financial variables

  • 3. Regulation and monetary policy

  • 4. Implications from the shift from direct to indirect monetary controls

  • 5. Discount rate policy

• Tables

• Appendix I. Relation between the γ Coefficients at Different Lags

• Appendix II. Step One Regressions

• Appendix III. Value of the Structural Variables Used in the Step Two Regressions

• References

Summary

The stickiness of bank lending rates with respect to money market rates is often regarded as a serious obstacle to the smooth transmission of monetary policy impulses. This paper attempts to provide a systematic measure of the degree of lending rate stickiness across countries, and to explain the observed cross-country differences.

The degree of lending rate stickiness in 31 industrial and developing countries is measured by estimating simple dynamic models. More specifically, the lending rate in each country is regressed against lagged values of money market and discount rates. The degree of lending rate stickiness is measured by looking at the response of lending rates following a change in money market rates at different time lags (i.e., by estimating impact, interim, and long-term multipliers). It is shown that the degree of stickiness is quite different across countries, particularly in the short run. For example, the impact multiplier of changes in money market rates is close to unity in some countries, but is as low as zero in others. Significant differences in the response of lending rates can be observed three and six months after the change in money market rates, while in the long run the adjustment tends to be close to unity for most countries.

The paper then focuses on explaining the differences in the degree of stickiness observed across countries. This is done by regressing a cross section of impact, interim, and long-term multipliers against a set of variables measuring several features of the financial system. The results indicate that five structural factors are particularly relevant in reducing lending rate stickiness: the existence of a sizable market for short-term monetary instruments (such as certificates of deposits or treasury bills); the absence of constraints on capital movements; the absence of constraints on bank competition (particularly, barriers to entry); the private sector ownership of the banking system; and the containment of the random component of money market rates. It is also shown that prime lending rates adjust faster than other lending rates and that lending rate stickiness is lower in economies that have experienced relatively high inflation.

The econometric results also indicate that, by “signaling” monetary policy changes, movements in administered discount rates can speed up the adjustment of lending rates. It is shown that the discount rate is more important in countries where the response of lending rates to money market rates is lower. The paper argues that this phenomenon is due to a form of “discount rate addiction” of the banking system. In countries where the discount rate has systematically been used as a signaling device by the central bank, banks tend to postpone their reaction to changes to money market rates until the discount rate is also changed.

These results provide further evidence on the relationship between structural financial policies and monetary policy, and on the relevance of credit markets for the transmission mechanism of monetary policy.