Best Laid Plans: Economic Consequences of Shadow Banking Crackdown

This paper studies the impact of shadow banking regulation on the financial system and the real economy. For identification, I exploit a policy – “New Asset Management Rules” (NAMR) – that restrict the issuance and investment directions of wealth management products (WMPs) in China. I find that depositors substitute the WMPs with deposits, leading to an increase in bank loans. I provide evidence the substitution is imperfect and the net credit supply of banks declines. Using a bank-firm linked database, I show that private-owned enterprises (POEs) with high shadow banking or WMP exposure experienced a decline in investments, the growth rate of total assets, liabilities, and revenue. The province-level data shows the aggregate impact of the NAMR is sizable. A counterfactual analysis shows that the investment growth rate would have been 1.6 percentage points higher, translating to a 1 percentage point higher GDP growth rate in 2018.