Driven by the observed growing budget deficit and the heavy reliance on debtfinancing from the banking sector, this study sets to test the lazy banking hypothesis for Egypt. According to this hypothesis, government borrowing crowds out private investment through its dampening effect on private credit. The study estimates a VAR model using quarterly data spanning for almost four decades. The estimated model has unearthed a number of interesting results. As the government issues more debt instruments to finance its deficit, banks shift their portfolio away from risky private loans and opt for lazy behavior characterized by a shrinking overall credit tilted more and more toward government debt-instruments. This behavior not only limits their exposure to the private sector, hence reducing private investment, but also adversely affects investment and hence overall growth potential. In addition, evidence shows that output growth positively impacts the willingness of the banking sector to extend more credit to both the government and the private sector. Finally, and consistent with the lazy bank model, impulse response functions show that the effect of a government borrowing shock is contractionary (as opposed to the effect of private credit shock which is slightly expansionary) with regard to the overall banking sector credit
Topics in Middle Eastern and North African Economies, electronic journal, Volume 16, Middle East Economic Association and Loyola University Chicago, September, 2014, http://www.luc.edu/orgs/meea/
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