Authors: Kyriakos Metaxas, Harry Papapanagos, Athanasios Koulakiotis

Title: Bank interest rates differentials for corporations in the Eurozone: a co-integration analysis approach

Abstract

The introduction of the common currency in the Eurozone has been initially considered to be critical for a further and deeper financial integration. However, banking integration, so far, has been fallen short of these expectations. The hypothesis that the single market would lead to price equalization has been proven to be unrealistic. In fact, despite the advent of the Banking Union, de jure and de facto banking integration do not coincide and hence the pricing of banking products for corporations in the Eurozone is not identical. Besides, there is robust empirical evidence, across various measures of integration, that supports the hypothesis that banking markets in the Eurozone are still far from being integrated.Among other factors, bank interest rate differentials in the Eurozone raise issues of equal conditions for corporations. Indeed, the dispersion of bank interest rates for corporations across the Eurozone member countries hinders the equivalent availability of bank financing both in terms of price and quantity. Taking into consideration that small and medium enterprises (SMEs) account for the vast majority of the number of enterprises and that their funding depends on banks, bank interest rates differentials represent a distortion of competition, which in turn intensifies economic and social disparities between member countries. In this context, it has been argued that heterogeneity is an endogenous feature of banking markets and hence prices cannot be equalized. Therefore, the applicability of the law of one price, which is the standard basis for measuring financial integration, is questioned. On the contrary, the existence of a uniform Eurozone banking system can be measured on the basis of co-integration among national bank interest rates. Against this background, the main objective of the paper is to apply the co-integration technique to test and empirically investigate bank interest rates differentials for corporations in the Eurozone. The data sample of the analysis conducted includes monthly bank interest rates from the 12 original Eurozone member countries. The analysis in the paper compiles four monthly lending interest rates data sets; loans to corporations of over EUR .25M & up to EUR 1M, loans to corporations of over EUR 1M, loans to corporations of up to EUR 0.25M and loans to corporations of up to EUR 1M. The data have been extracted from ECB’s Statistical Data Warehouse.The empirical findings of the paper indicate that, twenty years after the launch of the EMU, banking markets are still fragmented given the existence of price differentials; in a certain degree though bank interest rates for corporations are co-integrated. More in particular, the co-integration analysis conducted provides evidence that in most of the cases bank interest rates across all sets of banking products under consideration are co-integrated against the weighted average of the rest 11 Eurozone member countries. Thus, in the most part of the data set there is a long-term equilibrium relationship between bank interest rates, namely a co-movement in the long run.