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FRM Part II · FRM Exam Part II · The Global Drivers of Private Credit

An analyst studies countries where bank regulation tightened more sharply after the crisis. Based on the global drivers of private credit, which pattern would the analyst most reasonably expect to observe?

The analyst should expect larger private credit markets where bank regulation tightened more, because borrowers and lenders substitute toward non-bank channels when banks face higher capital costs. This regulatory substitution pattern is the opposite of private credit shrinking, and it is not unrelated to bank rules.

  1. APrivate credit growth tends to be larger relative to economic size where bank regulatory tightening was greater, as borrowers substitute toward non-bank lendersCorrect
  2. BPrivate credit growth is unrelated to bank regulation and depends only on equity market returns
  3. CPrivate credit shrinks where bank regulation tightened, because borrowers lose access to all credit
  4. DPrivate credit grows only where banks have been fully nationalized

Explanation

Regulatory arbitrage and substitution imply that when banks face stricter rules, demand for credit shifts to less-regulated non-bank lenders. Hence larger private credit markets are associated with stricter bank regulation. Option on shrinking credit ignores substitution.

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