Banks' Funding Structures Key to Passing ECB Rate Decisions Through to Economy

A recent study by the European Central Bank found that banks' funding structures significantly affect how quickly and completely ECB rate decisions reach businesses and households.

The research used euro area aggregate data from 2001 to 2023, alongside ECB data covering 266 individual banks between July 2007 and April 2023. It focused on new loans to non-financial corporations and overnight deposits.

The study found that when the ECB raises rates, banks heavily dependent on short-term money market funding face a quicker increase in their own borrowing costs and have a stronger incentive to raise lending rates. In contrast, banks relying more on issuing bonds tend to respond more slowly and by less following an ECB policy shock.

The researchers also identified a second factor involving the type of loans banks provide. Banks with a larger share of longer-term bond funding tend to issue more loans where the interest rate is fixed for longer periods, creating what the paper describes as an asset-liability-management channel.