Working Papers

2020-27 | October 2020

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Bank Risk-Taking and Monetary Policy Transmission: Evidence from China

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China implemented Basel III in 2013 and tightened bank capital regulations. Using confidential loan-level data, merged with firm-level data, we show that the new regulations reduced bank risk-taking following monetary policy easing. Banks respond to a balance-sheet expansion by raising the share of lending to low-risk borrowers, and in particular, to state-owned enterprises (SOEs) that receive high credit ratings under government guarantees. We construct a two-sector general equilibrium model with bank portfolio choices and show that a shift in bank lending toward SOEs following monetary policy easing reduces aggregate productivity, creating a tradeoff between financial stability and allocative efficiency.

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Article Citation

Li, Xiaoming, Zheng Liu, Yuchao Peng, and Zhiwei Xu. 2020. "Bank Risk-Taking and Monetary Policy Transmission: Evidence from China," Federal Reserve Bank of San Francisco Working Paper 2020-27. Available at https://doi.org/10.24148/wp2020-27