Summary:We examine the effect of bank capital levels on firm investment drawing on a sample of
11,106 non-financial firms from 2007 to 2013 in 16 advanced economies. We examine two
measures of bank capital adequacy, the Tier 1 ratio and a simple leverage ratio, and find that
firms with larger external financial needs invest relatively more when domestic financial
systems have relatively high leverage ratios. This pattern is more pronounced for those firms
that have sound fundamentals, suggesting that bank balance sheets and their willingness to
extend credit can be an important factor in determining aggregate investment and growth
outcomes. The empirical findings are robust to a range of specifications. Bank Tier 1 capital
ratio does not appear to have a significant effect on corporate investment, possibly because a
higher Tier 1 ratio also captures a high share of assets with low risk weights.
