13. Does Bank Regulation Spill Over to Firm Financing? SME Financing, Bank Monitoring, and the Efficiency of the Bank Lending Channel

This chapter analyses spillover between banks and firms when required bank capital is regulated. We contribute to the existing literature by addressing different regulatory responses with an impact on the supply and demand of bank lending. The chapter contributes to the growing literature addressing the unintended consequences of regulatory policy development. The study empirically compares the regulatory responses of Swedish banks and how these responses affect lending to Swedish small and medium-sized enterprises (SMEs). The theoretical framework and methodology employed in this chapter make it possible to study theories related to bank monitoring, regulatory arbitrage opportunities, and the risk-return trade-off. The main results indicate that banks’ regulatory responses are associated with increasing lending margins, either by (1) increasing the margin on the loan portfolios, spilling over the regulatory costs through higher prices, (2) lower acceptance of lower return customers, or (3) regulatory arbitrage through balance sheet adjustments.