Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/241244 
Authors: 
Year of Publication: 
2021
Series/Report no.: 
Bank of Canada Staff Working Paper No. 2021-21
Publisher: 
Bank of Canada, Ottawa
Abstract: 
This paper studies monetary policy in an economy where banks make risky loans to firms and provide liquidity services in the form of deposits to households. For given bank equity, market discipline implies that banks can take more deposits when assets are safer or more profitable. Banks respond to loan losses by making their balance sheets safer-i.e., they reduce risky lending sharply and accumulate more safe bonds. In contrast, a social planner would respond by making banks temporarily more profitable such that a riskier balance sheet can be maintained. A planner would temporarily reduce the expansiveness of monetary policy to avoid bonds becoming too liquid in support of the liquidity premium banks earn via deposits. Specifically, when bank equity is low, then optimal monetary policy stabilizes output by supporting bank lending rather than employment.
Subjects: 
Credit and credit aggregates
Financial stability
Financial system regulation andpolicies
Inflation targets
Monetary policy
JEL: 
E44
E60
G21
G28
Persistent Identifier of the first edition: 
Document Type: 
Working Paper

Files in This Item:
File
Size
459.13 kB





Items in EconStor are protected by copyright, with all rights reserved, unless otherwise indicated.