Long-Term Interest Rates and Bank Loan Supply: Evidence from Firm-Bank Loan-LevelData

Based on a mean-variance model of bank portfolio selection subject to the value-at-risk constraint, we make predictions on transmission channels through which lower long-term interest rates increase bank loan supply: the portfolio balance channel, the bank balance sheet channel, and the risk-taking channel. Using a firm-bank loan-level panel dataset for Japan, we find evidence of the presence of these channels. First, an unanticipated reduction in long-term rates increased bank loan supply. Second, banks that enjoyed larger capital gains on their bond holdings increased loan supply. Further, this effect was stronger for loans to smaller, more leveraged, and less creditworthy firms.