Liquidity Risk and Banks’ Asset Composition: Implications for Monetary Policy

Edgar Ghossoub
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Edgar Ghossoub: The University of Texas at San Antonio

No 96, Working Papers from College of Business, University of Texas at San Antonio

Abstract: monstrate that in?ation adversely a¤ects capital formation through the crowding out e¤ect. Interestingly, the results are at odds with empirical evidence. In particular, recent studies point out to an asymmetric rela- tionship between in?ation and the real economy across countries. Speci?- cally, in?ation and output are negatively correlated in poor countries. In contrast, in?ation is associated with higher levels of economic activity in advanced economies. I present a monetary growth model where the ex- posure to risk is inversely related to the level of income. In this setting, I demonstrate that the e¤ects of monetary policy depend on the level of economic activity and the portfolio composition of ?nancial institutions. In poor countries, banks?portfolios consist primarily of government liabili- ties. Therefore, a higher rate of money creation inhibits capital formation in these economies. In contrast, banks devote more resources towards productive uses in advanced countries. Consequently, monetary policy generates a Tobin effect.

Keywords: Economic Development; Banks; Monetary Policy (search for similar items in EconPapers)
JEL-codes: E31 E41 E44 O42 (search for similar items in EconPapers)
Pages: 25 pages
Date: 2009-06-24
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