The 1920s bank lending boom in Spain: the role of government debt and central bank liquidity

Abstract This paper investigates the causes of the bank lending boom of the late 1920s in Spain, during the last years of the Primo de Rivera Dictatorship. I focus on the role played by the fiscal and monetary policy framework resulting from the 1921 Banking Law, which shaped banks’ incentives to accumulate public debt and their access to Banco de España liquidity. I resort to a new database of bank-level quarterly balance sheets, which includes the universe of banks in Spain, and exploit banks’ differential access to central bank liquidity and other balance sheet characteristics, in order to estimate their differential reaction to changes in central bank lending rates. I find that the larger banks’ portfolios of public debt, the less reactive the banks were to monetary policy rate changes. By looking at the mediating role of bank credit, these findings underscore the incompatibility of the fiscal policy of the Dictatorship and its aims at exchange rate stability.