The Risk-Taking Channel of Liquidity Regulations and Monetary Policy

September 12, 2018
Issue 2018-13

Summary

We develop a theoretical model to study the implications of liquidity regulations and monetary policy on deposit-making and risk-taking. Banks give risky loans by creating deposits that firms use to pay suppliers. Firms and banks can take more or less risk. In equilibrium, higher liquidity requirements always lower risk at the cost of lower investment. Nevertheless, a positive liquidity requirement is always optimal. Monetary conditions affect the optimal size of liquidity requirements, and the optimal size is countercyclical. It is only optimal to impose a 100% liquidity requirement when the nominal interest rate is sufficiently low.

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Issue:
13
Pages:
48
JEL classification:
E22, E52, G28
Keywords:
Monetary policy, Interest on reserves, Deposit creation, Liquidity requirements
Year:
2018

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Author(s)

  • Dr. Stephan Imhof

  • Cyril Monnet

  • Shengxing Zhang

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