N°26-75: Monetary Policy Uncertainty and Bank Credit Allocation

We analyze how monetary policy uncertainty (MPU) affects bank credit allocation. First, we develop a theoretical model in which MPU consumes banks' risk-bearing capacity. Higher MPU therefore curbs risky lending, most strongly at less capitalized banks. Second, we test this prediction across U.S. credit markets using FOMC-announcement changes in optionimplied rate uncertainty, controlling for the monetary policy stance. In syndicated lending, a one standard deviation increase in MPU widens the gap between high-and low-capital banks in lending to riskier relative to safer borrowers by 1.65 percent. Small business and mortgage originations show similar patterns, consistent with this mechanism.