Staff Working Paper No. 1,164
By Dennis Reinhardt, Julian Reynolds and Rhiannon Sowerbutts
How does geopolitical risk affect bank lending? To examine this question, we exploit a rich cross-border bank lending data set from the UK which records banks’ large exposures to individual firms and match this with a firm-level measure of geopolitical risk, derived from firms’ earnings call reports. We find that a one standard deviation increase in geopolitical risk causes cross-border bank lending growth to decline by around 4 percentage points after one year. This effect is not uniform: lending falls most significantly to financial firms, declines for manufacturing firms, and rises for mining and defence firms, albeit insignificantly so; also better-capitalised and more liquid banks are less sensitive to geopolitical risk. Effects are more strongly negative for sanctions-related risks and if bank and borrower nationalities are not geopolitically aligned. Finally, local projections show that geopolitical risk transmits to cross-border lending via macroeconomic aggregates and asset prices, with transmission influenced by credit growth dynamics and sanctions as the primary risk driver.
Geopolitical risk and cross-border bank lending