Economic policy uncertainty and bank stability: Does bank regulation and supervision matter in major European economies?

Abstract

Motivated by the unprecedented high levels of recent economic policy uncertainty in Europe and the globe, this paper examines the relationship between economic policy uncertainty and bank stability, as well as the conditioning effects of bank regulation and supervision on this relationship. Using a sample of more than 950 commercial banks in eight major European countries over the period 2005–2020, economic policy uncertainty has been consistently linked to a sharp decrease in bank stability, once other traditional drivers are controlled for. More importantly, this paper offers important insights into how strengthening bank regulation and supervision, particularly regulations on activity restrictions, capital stringency, official supervisory power, and private monitoring, cushions the adverse effects of policy uncertainty on bank stability.