House Prices, Heterogeneous Banks and Unconventional Monetary Policy Options
Andrew Smith ()
No 201311, WORKING PAPERS SERIES IN THEORETICAL AND APPLIED ECONOMICS from University of Kansas, Department of Economics
Bank regulators acknowledge that large U.S. commercial banks allocate considerably more resources to originating and trading off-balance sheet assets than their smaller counter parts. In this paper: (i) I show the asset concentration in these large banks moves closely with home prices due to the collateralized nature of off-balance sheet assets. (ii) I then develop a general equilibrium capable of capturing this asset redistribution between heterogeneous banks. When home prices fall, endogenously tightening leverage constraints force the big productive banks to unload real-estate secured debt to small unproductive banks. The redistribution to less productive banks sets off an asset price spiral in the model - amplifying typical downturns into deep recessions. The model has predictions for the joint behavior of finance premiums, output, home prices and the share of assets held by large banks. (iii) I use a VAR to confirm the model's predictions for these variables are consistent with the data. (iv) Finally, I use this empirically verified model to examine the effectiveness of unconventional monetary policyin mitigating a recession generated by a drop in housing demand. Despite the fact that both equity injections into "Too Big to Fail" banks and asset purchases by the Fed such as "QE 1/2/3" mitigate the crisis, the nuances of the policies are important. A prolonged asset purchase program is preferable to a short-term equity injection.
Keywords: Financial Crises; Financial Frictions; Housing; Unconventional Monetary Policy (search for similar items in EconPapers)
JEL-codes: E32 E44 G01 G21 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ban, nep-cba, nep-dge, nep-mac and nep-ure
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Working Paper: House prices, heterogeneous banks and unconventional monetary policy options (2014)
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Persistent link: http://EconPapers.repec.org/RePEc:kan:wpaper:201311
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