Bank Coordination and Monetary Transmission: Evidence from India

Shiv Dixit and Krishnamurthy Subramanian

MPRA Paper from University Library of Munich, Germany

Abstract: We propose a new channel for the transmission of monetary policy shocks, the coordination channel. We develop a New Keynesian model in which bank lending is strategically complementary. Banks do not observe the distribution of loans but infer it using Gaussian signals. Under this paradigm, expectations of tighter credit conditions reduce banks’ lending response to monetary shocks. As a result, lack of coordination and information about other banks’ actions dampen monetary transmission. We test these predictions by constructing a dataset that links the evolution of interest rates to firms’ bank credit relationships in India. Consistent with our model, we find that the cross-sectional mean and dispersion of lending rates, which capture the expected value and the precision of the signals of credit extended by other banks, are significant predictors of monetary transmission. Our quantitative results suggest that lending complementarities reduce monetary transmission to inflation and output by about a third.

Keywords: Monetary policy transmission; India; lending rates (search for similar items in EconPapers)
JEL-codes: E43 E52 G21 (search for similar items in EconPapers)
Date: 2020-08-10
New Economics Papers: this item is included in nep-ban, nep-cba, nep-mac and nep-mon
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