The Capital Crunch: Neither a Borrower nor a Lender Be

The dramatic reduction in the growth rate of bank lending associated with the 1990-91 recession, particularly in New England, has evoked claims by many observers of a credit crunch.However, because of the difficulty in determining whether the observed slow credit growth is a demand or supply phenomenon, convincing evidence of the practical importance of credit crunches for economic activity remains elusive.We overcome this obstacle by examining a cross-section of banks in New England that have experienced the same economic downturn, effectively controlling for changes in demand.We find empirical support for a capital crunch, whereby poorly capitalized institutions shrink to satisfy capital requirements.This alone is not a sufficient condition for a credit crunch.However, we find s6me additional evidence that the ca~~ital crunch may have limited credit availability in New England.