Quality is our asset: the international transmission of liquidity regulation

Staff working papers set out research in progress by our staff, with the aim of encouraging comments and debate.
Published on 15 May 2020

Staff Working Paper No. 860

By Dennis Reinhardt, Stephen Reynolds, Rhiannon Sowerbutts and Carlos van Hombeeck

We examine how banks’ cross-border lending reacts to changes in liquidity regulation using a new dataset on Individual Liquidity Guidance (ILG), which was enacted in the UK from 2000 to 2015 and is similar to the Basel III Liquidity Coverage Ratio. A one percentage point increase in liquidity requirements to total assets reduces UK resident banks’ cross-border lending growth by around 0.6 percentage points and both bank and non-bank lending are affected. But quality matters: an increase in the holdings of High Quality Liquid Asset (HQLA) qualifying sovereign debt offsets some of the reduction in total cross-border lending growth. Furthermore, the strongest reduction is driven by foreign subsidiaries from countries where sovereigns do not issue HQLA; in contrast subsidiaries from countries issuing HQLA are able to protect their lending to unrelated entities and cut their intragroup lending instead. Banks with a higher deposit share as a consequence of established retail operations, such as those headquartered in the UK, are also able to offset the effects of increases of liquidity requirement on cross-border lending.

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