No. 224 - Monetary Policy Transmission via Lending Rates in Italy: Any Lessons from Recent Experience?

We argue that Italy provides an interesting case study to test for the existence of a lending channel for the transmission of monetary policy - alongside the traditional money channel - which operates via lending rates and does not require credit rationing. First, because private debt markets are relatively underdeveloped, making the business sector de- pendent on bank credit. Secondly, because ties between banks and firms are not as strong as in other bank-oriented economies, ruling out factors that might curb the pass-through of monetary restrictions to the credit market. We also suggest that this lending channel may have enhanced the power of monetary restrictions through indirect instruments after the very large reduction in banks' holdings of securities in the second half of the 1980s, following the abolition of ceilings on lending growth. In the new situation, there seems to be less scope for banks to lower their securities holdings in order to shield loan supply from reserve restrictions, as they did at times in the past, compelling the Bank of Italy to reintroduce credit ceilings temporarily. Comparing the monetary tightening of 1992 and the most pronounced squeeze of the 1980s - that of 1981, with credit ceilings in place and banks' securities portfolios overweight - evidence consistent with a strengthening of the transmission of the monetary impulses through lending rates is found only for 1992. Furthermore, the econometric results from a VAR model are also consistent with the presence of this lending channel in recent years and with non-negligible effects being exerted on real activity by monetary policy.