The Risk-Taking Channel of Liquidity Regulations and Monetary Policy
Stephan Imhof, Cyril Monnet and Shengxing Zhang
Issue
2018-13
Pages
48
JEL classification
E22, E52, G28
Keywords
Monetary policy, Interest on reserves, Deposit creation, Liquidity requirements
Year
2018
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.