Capital‐constrained loan creation, household stock market participation and monetary policy in a behavioural new Keynesian model

Naira Kotb and Christian R. Proaño

International Journal of Finance & Economics, 2023, vol. 28, issue 4, 3789-3807

Abstract: In this paper, we incorporate a stock market and a banking sector in a behavioural macro‐finance model with heterogenous and boundedly rational expectations. Households' savings are diversified among bank deposits and stock purchases, and banks' lending to firms is subject to capital‐related deviation costs. We find that households' participation in the stock market, coupled to the existence of a capital‐constrained banking sector affects the transmission of monetary policy to the economy significantly, and that households' deposits act as a critical spill‐over channel between the real and the financial sectors. Further, we relate the deviation costs in the banking sector with the degree of pass‐through of monetary policy shocks. Last, we investigate the performance of a leaning‐against‐the‐wind monetary policy, which targets asset prices concerning macroeconomic and financial stability.

Date: 2023
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