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Excess Liquidity, Bank Pricing Rules, and Monetary Policy

Pierre-Richard Agénor () and Karim El Aynaoui ()

Centre for Growth and Business Cycle Research Discussion Paper Series from Economics, The University of Manchester

Abstract: This paper analyzes the implications of excess bank liquidity for the effectiveness of monetary policy in a simple model with credit market imperfections. Lending rates are set as a premium over the cost of borrowing from the central bank, with the premium itself depending on firms’ net worth. The demand for excess reserves is determined by precautionary factors and opportunity cost variables. The basic framework is used to examine the impact of a change in the refinance rate and the required reserve ratio. The analysis is then extended to account for the impact of excess liquidity on bank pricing rules and macroeconomic equilibrium. Symmetric and asymmetric rules are shown to provide new explanations of the “price puzzle” or “stagflationary” effect associated with contractionary monetary policy.

Pages: 39 pages
Date: 2008
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
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Journal Article: Excess liquidity, bank pricing rules, and monetary policy (2010) Downloads
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