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Negative interest rates, excess liquidity and retail deposits: Banks’ reaction to unconventional monetary policy in the euro area

Selva Demiralp, Jens Eisenschmidt () and Thomas Vlassopoulos ()
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Thomas Vlassopoulos: European Central Bank, Frankfurt, Germany

Koç University-TUSIAD Economic Research Forum Working Papers from Koc University-TUSIAD Economic Research Forum

Abstract: Negative interest rate policy (NIRP) is associated with a particular friction. The remuneration of banks´ retail deposits tends to be floored at zero, which limits the transmission of policy rate cuts to bank funding costs. We investigate whether this friction affects banks’ reactions under NIRP compared to a standard rate cut in the euro area. We argue that reliance on retail deposit funding and the level of excess liquidity holdings may increase banks’ responsiveness to NIRP. We find evidence that banks highly exposed to NIRP tend to grant more loans, i.e. NIRP is indeed expansionary for the levels of interest rates seen in the euro area so far. This confirms studies pointing to higher risk taking by banks under NIRP and sheds some new light on results that associate NIRP with a contraction in bank loans, albeit in specific market segments. We are the first to document the importance of banks’ excess liquidity holdings for the effectiveness of NIRP, pointing to a strong complementarity of NIRP with central bank liquidity injections, e.g. via asset purchases.

Keywords: Negative rates; bank balance sheets; monetary transmission mechanism (search for similar items in EconPapers)
JEL-codes: E43 E52 G11 G21 (search for similar items in EconPapers)
Pages: 70 pages
Date: 2021-05
New Economics Papers: this item is included in nep-ban, nep-cba, nep-eec, nep-mac and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (4) Track citations by RSS feed

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Related works:
Journal Article: Negative interest rates, excess liquidity and retail deposits: Banks’ reaction to unconventional monetary policy in the euro area (2021) Downloads
Working Paper: Negative interest rates, excess liquidity and retail deposits: banks’ reaction to unconventional monetary policy in the euro area (2019) Downloads
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