Revisiting the Stabilization Role of Public Banks: Public Debt Matters

IMF Working Papers, January 15, 2021

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This paper revisits the stabilization role of public banks and analyzes whether weak public finances may hinder this role.
During the global financial crisis (GFC), public banks were widely used to counter the private credit crunch and prop up the economy.
Using cross-country bank-level data for 125 advanced and developing economies for 1999–2018, the paper finds public bank lending to be less procyclical than private bank lending on average, particularly during busts.
A key result is that in developing economies with high public debt levels, public bank lending has been more procyclical, particularly outside of the GFC period.
The finding suggests high public debt can limit the stabilization role of public banks during domestic busts, likely reflecting higher financing costs public banks face and lower subsidies they receive in economies with tighter budget constraints.

Cross-country bank-level data covering 125 advanced and developing economies.
Sample period: 1999–2018.
Focus on comparing public bank lending versus private bank lending, with emphasis on behavior during economic busts and the GFC.

Public bank lending is less procyclical than private bank lending on average.
The cushioning effect of public banks is particularly evident during busts.
In developing economies with high public debt levels, public bank lending has been more procyclical, especially outside the GFC period.
Suggested mechanisms: higher financing costs for public banks and lower subsidies in economies with tighter budget constraints.

High public debt may limit the ability of public banks to act as stabilizers during domestic downturns.
Budget constraints can reduce public banks’ access to cheaper funding and diminish subsidy support, undermining countercyclical lending capacity.
The role of public banks in crisis response (as in the GFC) may depend critically on the underlying fiscal space of the country.