An Assessment of the Credit Channel in Brazil

Abstract

This work evaluates the bank lending channel in Brazil, in the post-Real Plan period. The work includes descriptive analysis and formal econometric tests based on several indicators of the credit market. First of all, the descriptive analysis shows that the main relationship between credit indicators, monetary policy and economic activity are in line with the predictions of the credit channel theory. Additionally, it highlights the fact that bank loans in Brazil are predominantly short-term, which helps to explain the faster reaction of the economy to monetary shocks. Second, Granger causality tests suggest that loan supply and, to a less extent, bank interest rate spread, are leading indicators of real output. Third, VAR-based impulse response functions suggest that Brazilian banks contract credit supply and increase the interest spread in reaction to a monetary tightening, which ultimately contracts real output. Fourth, tests based on velocity of credit also support the existence of a bank lending channel in Brazil, as suggested by the tests based on indicators of prices and quantities. Finally, we cannot reject the inclusion of credit in traditional estimates of the IS curve. Taken together, the empirical tests suggest that the bank lending channel matters for the monetary policy transmission mechanism in Brazil and conforms with the predictions of the theory.Bank Lending Channel; Monetary Policy; Credit