18. Did the Increase in Excess Liquid Assets of Banks Amplify the Effects of Tight Macro-prudential Tools on Activity in the Manufacturing Sector?

Did the increase in excess liquid assets of banks amplify the effects of tight macro-prudential tools on activity in the manufacturing sector? Evidence in this chapter shows that declines in excess liquid asset holdings (ELAH) of banks increased post-2009 resulting in an increase in credit to government and a decline in credit to the private sector. Positive shocks to credit to government crowd out credit to the private sector. Thus, an increase in bank credit to government tends to depress credit to the private sector. In addition, different regimes of ELAH by banks exert opposing shock effects on the activity in the manufacturing sector. The manufacturing sector output growth and sales growth increase (decrease) in the low (high) ELAH regimes. In addition, ELAH above 10 per cent results in the decline in the manufacturing sector output growth and employment growth. The decline is amplified by the tight (low) loan-to-value ratios and high repayment-to-income channels as the actual manufacturing sector output growth and employment growth decline more than the counterfactual responses. The results imply that there is a case to lower the ELAH of banks in order to channel the funds towards the financing of projects in the manufacturing sector. The results also imply that the ELAH threshold matters for the macro-economy.