14. Financial Regulation Policy Uncertainty, Lending Rate Margins and Credit Growth

What are the effects of financial regulation policy uncertainty (FRPU) on the business cycle, monetary policy and lending spreads? Evidence reveals that banking sector financial frictions as measured by the FRPU and lending rate margins affect the business cycle fluctuations and the transmission of monetary policy settings. In addition, the FRPU shocks, which capture uncertainty about regulation and supervisory issues, contributed significantly to the reduction in credit extension. Furthermore, the instalment rate margins fluctuations are self-induced relative to those induced by FRPU. This evidence is consistent with the bank’s internal reassessment of the riskiness of certain types of bank lending and clients, and changes in banks’ business strategies. Such practices can affect the intermediation of credit and also impede the desired easing effects of monetary policy on the quantities or volume of new loans. Nodari (2014) suggests that the FRPU adverse effects imply that policymakers should pay considerable attention to the design of financial regulation from the credibility and policy management perspectives. This is because lack of transparency in the policy design can have adverse macroeconomic effects. Hence, while the trade-off exists between policy correctness and decisiveness, there should be no ambiguity in policies on which many economic agents depend on to engage in purposeful production and spending decisions.