South-East European Research Centre (SEERC)

This paper aims to provide evidence on the relationship between bank capital and liquidity creation in Europe as well as to examine liquidity creation and its drivers over time. We use data on 557 Western and Eastern European banks which we split by size and by region (Central & North, South and South-East Europe) from 2005 to 2017 and perform panel data regressions with bank fixed effects. We find a negative effect of bank capital on liquidity creation across all bank size classes and regions, apart from South EU for which we find a positive effect. We also document a significant increase of almost 50% of bank liquidity creation over this period. We attribute this increase to the need for banks to maintain their profitability by providing less risky illiquid loans