Highlights

Abstract

Keywords

JEL classification

۱٫ Introduction

۲٫ Background Facts

۳٫ Data

۴٫ Bank Funding Dynamics

۵٫ Are the Results Driven by Informationally Less Opaque Banks?

۶٫ How Does Capital Account Liberalization Affect Small Banks?

۷٫ Robustness Checks

۸٫ Concluding Remarks

Acknowledgments

Appendix A.

References

Abstract

Using a sample of almost 600 banks in Latin America, we show that capital account liberalization lowers the share of equity and raises the share of interbank funding in total liabilities of the banking system. These shifts are mostly due to large banks; smaller banks, instead, increase their resort to retail funding by offering higher average deposit interest rates than larger banks. We also find significant differences in the behavior of banks with seemingly greater information opacity. These findings have positive implications for macro-prudential regulation.

۱٫ Introduction

Lower controls on a country’s capital account can increase the conditional probability of macro-financial crises by facilitating the accumulation of foreign liabilities (Reinhart and Rogoff, 2008, Gourinchas and Obstfeld, 2012, Claessens and Ghosh, 2013, Catão and Milesi-Ferretti, 2014, Claessens, 2017).1 In examining the channels through which abundant global liquidity and capital flows raise crisis risk, many papers have looked at the role of bank lending to private firms and the government—flows that lie squarely on the asset side of banks’ balance sheets (Popov and Udell, 2012, Jordà et al., 2013, Lane and McQuade, 2014, Taylor, 2015; Ongena et al., 2015, Correa et al., 2015; Baskaya et al., 2017, Temesvary et al., 2018; Morais et al., 2019, Dinger and te Kaat, 2020; Hoffmann and Stewen, 2020, te Kaat, 2020). On the liability side, while there has been work on how bank leverage responds to swings in global liquidity and risk aversion (Bruno and Shin, 2015a, Bruno and Shin, 2015b), and on how capital control regulations affect the cost and volume of international borrowing and lending to firms (Bonfiglioli, 2008; Beakart et al., 2011; Varela, 2018; Ahnert et al. 2021), little attention has been devoted to how the distinct components of banks’ liabilities shift in response to changes in capital controls and how those shifts are conditioned by bank-specific characteristics (large vs. small, foreign vs. domestically-owned, having a more vs. a less opaque balance sheet).

This paper aims to fill some of this gap in the literature. We examine the response of the various liability components of banks—namely, equity, retail deposits, interbank deposits, bonds, other short-term debt, and non-interest liabilities—to changes in capital control regulations and ask whether and how such responses differ across smaller and larger banks, domestic vs. foreign-owned, and those with seemingly more vs. less opaque balance sheets. We do so using bank-level data from Bureau van Dijk’s Bankscope database for 17 Latin American countries over 1995–۲۰۱۳٫ Focusing on Latin America during this period is particularly suitable for the purpose of this investigation because of the region’s pattern of liberalization in external capital accounts, which was not only far-reaching, but also displayed considerable cross-country heterogeneity through the 1990s, 2000s and early 2010s, aiding identification.2 We further aid identification by controlling our estimates for a variety of country-specific macro and global financial variables, using a more accurate metric of capital controls developed in Fernández et al. (2016), and allowing for some possible endogeneity of capital controls. The sizable dimension of our panel data—across countries, banks, and time—coupled with our use of a rich set of macro-financial covariates in turn allows our findings to speak to the intersection of the prominent literature on banks, financial globalization and macro-financial risk.