Bank Health and Local Economic Outcomes

Organised by

• Department of Economics

We use a comprehensive data set of home mortgage loan originations from 2001-2018 matched with banks’ income and balance sheet statements to analyze how fluctuations in bank health influence local credit supply and county-level economic outcomes. To isolate fluctuations in the supply of credit, our identification strategy exploits the fact that banks originate home mortgage loans across multiple local markets, which allows us to estimate statistical credit supply effects that are then linked to the health of bank balance sheets. We find that a worsening of bank health is associated with a significant reduction in credit supply. Our findings further indicate that a worsening in credit supply during the 2007-10 global financial crisis lead to significant—in both economic and statistical terms—declines in local home prices as well as various measures of county-level economic activity. These credit-induced supply effects also influence broad-based measures of economic activity in the post-GFC period. Importantly, the effect of bank health on the local economy is estimated to be as strong during the post-GFC period as during the GFC. The findings are robust to controlling for the decline in local household demand. Our results further highlight a robust relationship between expansions in bank mortgage lending and expansions in local business lending that are also independent of local demand conditions. These findings imply that bank credit supply spurs local economic activity by causing direct expansions in credit supply to bank-dependent firms.

Co-authors: Michael Siemer and Egon Zakrajsek