How Do Global Banks React to Natural Disasters?

Views and opinions expressed are those of the authors and do not necessarily represent official positions or policy of the OFR or Treasury.

Natural disasters can generate large economic losses for global financial institutions. These shocks can propagate across economies through global banking networks. In a new OFR working paper, Global Banks and Natural Disasters, OFR Researchers Francisco E. Ilabaca and Robert Mann with University of Wisconsin-Madison Assistant Professor Philip Mulder show that natural disasters affect global banks’ lending in unexpected ways.

Global banks play a role in international finance through their lending operations. This can contribute to more efficient capital allocation, but also to more interconnected economies. Natural disasters should increase the demand for funds. Prior research has been consistent with this intuition, finding that domestic banks tend to lend to disaster-affected areas. The authors, in contrast, find that this does not hold true in an international context.

Using data on the lending operations of large global banks, the authors find that lending to natural-disaster-affected countries declines following a disaster. This decline is largest for low-income countries. Lending patterns depend on a bank’s pre-disaster relationship with the affected country. However, the authors find little evidence for spillovers from affected countries to non-affected countries through bank operations.

These results suggest that global banks, in contrast to domestic banks, could make recovery more difficult by lending less to disaster affected countries. Given the increasing globalization of the U.S. banking system, these results can inform policymakers about the potential impact that shocks to foreign countries may have on domestic institutions.