Countercyclical reserve requirements in a heterogeneous-agent and incomplete financial markets economy

Christian Bustamante and Franz Hamann

Journal of Macroeconomics, 2015, vol. 46, issue C, 55-70

Abstract: For a long time reserve requirements fell into disuse as a countercyclical monetary policy tool. Recently, while developed countries struggled to deal the financial crisis, several emerging countries resorted to them as part of the macro-prudential policy toolkit. The apparent success of such non-conventional instruments in mitigating business cycle fluctuations raises the question whether they deserve full credit for that or some merit should be given to conventional instruments, like short-term interest rates. To answer this question, we use a dynamic stochastic general equilibrium model with risk-averse financial intermediaries, heterogeneous agents facing uninsurable idiosyncratic risk and a central bank that implements countercyclical policy using two instruments: short-term rates and reserve requirements. In this environment, in which agents’ wealth matters for their consumption and savings decisions, we find that using reserve requirements as a countercyclical tool marginally helps to reduce the consumption volatility and that its effect becomes quantitatively relevant only if banks are sufficiently risk averse. Two factors drive our results: the presence of interest rate risk and the imperfect substitution between bank liabilities.

Keywords: Monetary policy; Reserve requirements; Dynamic general equilibrium (search for similar items in EconPapers)
JEL-codes: C68 E32 E52 (search for similar items in EconPapers)
Date: 2015
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Citations: View citations in EconPapers (9)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jmacro:v:46:y:2015:i:c:p:55-70

DOI: 10.1016/j.jmacro.2015.08.002

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