The Aggregate Demand for Bank Capital
We propose a novel conceptual approach to transparently characterizing credit market outcomes in economies with multi-dimensional borrower heterogeneity. Based on characterizations of securities' implicit demand for bank equity capital, we obtain closed-form expressions for the composition of credit, including a sufficient statistic for the provision of bank loans, and a novel cross-sectional asset pricing relation for securities held by regulated levered institutions. Our framework sheds light on the compositional shifts in credit prior to the 07/08 financial crisis and the European debt crisis, and can provide guidance on the allocative effects of shocks affecting both banks and the cross-sectional distribution of borrowers.
We are grateful for feedback from our discussants Bengt Holmstrom, Guido Lorenzoni, Balint Horvath and Frederic Boissay, as well as comments by Juliane Begenau, Peter DeMarzo, Jason Donaldson, Arvind Krishnamurthy, and Ernst-Ludwig von Thadden. In addition, we thank participants at the NBER Summer Institute 2019 (Risks of Financial Institutions; Capital Markets and the Economy), the EFA 2019, the Chicago Booth Asset Pricing Conference, Bocconi BAFFI CAREFIN, European Central Bank, HKU, HKUST, University of Oregon, University of Mannheim, University of Rotterdam, NUS, and Tilburg University. The views expressed herein are those of the authors and do not necessarily reflect the views of the National Bureau of Economic Research.