Constructing a strong and unique instrument for bank capital from the empirical observation of Japanese banks’ past behavioral changes, we identify the impact of capital adequacy on the allocation of bank lending supply across low quality and high quality borrowers. We find that, in FY 1997, a...

The underlying causes of sharp declines in bank lending during recessions in large developed economies, as exemplified by the U.S. in the early 1990s and Japan in the late 1990s, are still being debated due to a lack of any convincing identification strategy of the supply side capital-lending...