Faculty of Economics and Business Administration Publications Database

Procyclical Leverage: Evidence from Banks' Lending and Financing Decisions

Schandlbauer, Alexander
Volume: 113
Pages: 105756 -
Month: April
ISSN-Print: 0378-4266
Link External Source: Online Version
Year: 2020
Keywords: Bank lending; Bank capital; Geographical segmentation; Leverage; Procyclicality

Middle-aged people have a higher demand for bank loans compared to other age groups and banks that are active in regions with more middle-aged residents are exposed to higher loan demand. This generates a geographically varying demand for loans. Using this variation, we show that banks increase their loan supply and expand their balance sheet with an increase in their loan demand. They finance this expansion with retained earnings and debt, whereas they avoid issuing new equity. This leads to a decrease in their capital ratios and an increase in their leverage, i.e., leverage is procyclical. In addition, by differentiating between worse-and better-capitalized banks, we highlight the importance of bank capital in banks' lending and financing decisions.