Cross-border bank lending under ambiguity: an analysis of claims and syndications

Abstract

This paper is the first to explore how ambiguity arising from incomplete information about probabilities (a.k.a. Knightian uncertainty) – an altogether different construct from risk or economic policy uncertainty – affects cross border bank lending (claims and syndications). Using high-frequency stock return data from 20 countries to compute a newly defined measure of ambiguity, our results show a significant positive relationship between heightened ambiguity in source countries and increased cross-border bank lending. The relationship remains robust after controlling for macroeconomic factors. The results suggest that banks respond to domestic market ambiguity by restructuring their business portfolios and increasing their financial credit exposures abroad. This is consistent with theoretical hypotheses around banks’ ambiguity aversion. On the other hand, in line with most prior findings in existing literature, a volatility measure of risk is found to have a negative effect on cross-border bank lending. By isolating the effect of home country ambiguity from commonly adopted measures of risk or broadly defined uncertainty, our study provides an important insight for policymakers and banking supervisors navigating the complexities of global finance in an increasingly uncertain environment.

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