This paper provides microlevel evidence on how the enhanced monitoring of the equity market dampens economic cycles by suppressing banks’ supply of household credit. House-hold credit expansion has been documented as the main driver of economic cycles. I exploit a regulatory experiment that randomly selected a group of listed pilot firms and removed their short-selling restrictions from 2004 to 2007. Some of these pilot firms are banks in-volved in residential mortgage origination. Using a difference-in-differences specification at the bank-county-year level, I find that the growth rate of portfolio mortgage origination is 25 to 54 percentage points lower for the treated banks. Textual analyses show declines in treated banks’ short-termism and increases in their attention to mortgage risks. The effect on mortgage origination was stronger for banks with higher short-termism and lower atten-tion to mortgage risks before the treatment period and was not driven by changes in bank financial characteristics or market attention. I do not find a similar pattern in business credit or securitized mortgages. Counties with higher exposures to the experiment experi-enced less deterioration in housing markets, unemployment rates, and per capita income during the Great Recession. The findings shed light on the role of the equity market in the stability of the real economy.

Keywords: Banking, Equity Market, Economic Cycles, Mortgages, Short Selling, Housing Markets
JEL Classifications: G20, G21.