Macroprudential policy and financing behaviour in emerging markets: bank-level evidence from Indonesian dual banking

The loan-to-funding ratio-based reserve-requirement (RR-LFR) is a macroprudential instrument used by Bank Indonesia (central bank) to maintain the stability of Indonesian financial system by considering the bank liquidity conditions. This paper examines the impact of RR-LFR on financing behaviour in a dual banking system (Islamic and conventional banks) using generalised method of moment estimation (GMM) technique to address the endogeneity of explanatory variables and reduce the possible biases from residual correlation. Using bank-level data for both Islamic and conventional banks covering the period 2001-2015, we analyse the reaction of bank financing behaviour toward RR-LFR policy. The findings indicate that RR-LFR is effective in curtailing financing behaviour of banking institutions. Further, we show that RR-LFR exerts more impacts on managing credit expansion of conventional banks than of Islamic banks. The study suggests that a specific macroprudential framework should be put in place to address systemic concerns for each type of banks. Hence, the supervisory authorities will be able to identify the channel of macroprudential transmission and to devise an optimum policy mix for their banking system.