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  5. New Theories on Liquidity and Regulation
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New Theories on Liquidity and Regulation

Paper Session

Sunday, Jan. 8, 2023 8:00 AM - 10:00 AM (CST)

New Orleans Marriott, Preservation Hall Studio 9
Hosted By: Chinese Economic Association in North America & American Economic Association
  • Chair: Russell Tsz-Nga Wong, Federal Reserve Bank of Richmond

A Model of Retail Banking and the Deposits Channel of Monetary Policy

Michael Choi
,
University of California-Irvine
Guillaume Rocheteau
,
University of California-Irvine

Abstract

We develop a dynamic, search-theoretic model of bank deposits markets where relationships are bilateral, the demand for liquid assets is microfounded, and consumers are privately informed about their liquidity needs. As the policy rate rises, the deposit spread widens, and aggregate deposits shrink,
in accordance with the deposits channel documented in Drechsler et al (2017). We show that the deposit outflow originates from consumers with low liquidity needs. As banks become more informed about consumers' types (e.g., through big data), their market power increases but transmission weakens. As entry costs are reduced (e.g., through online banking), market power shrinks and transmission weakens.

Corrective Regulation with Imperfect Instruments

Eduardo Dávila
,
Yale University
Ansgar Walther
,
Imperial College London

Abstract

This paper studies optimal second-best corrective regulation, when some agents/activities cannot be perfectly regulated. We show that policy elasticities and Pigouvian wedges are sufficient statistics to characterize the marginal welfare impact of regulatory policies in a large class of environments. We show that a subset of policy elasticities, leakage elasticities, determine optimal second-best policy, and characterize the marginal value of relaxing regulatory constraints. We apply our results to scenarios with unregulated agents/activities, uniform regulation across agents/activities, and costly regulation. We illustrate our results in applications to financial regulation with environmental externalities, shadow banking, behavioral distortions, asset substitution, and fire sales.

Disintermediating the Federal Funds Market

Russell Tsz-Nga Wong
,
Federal Reserve Bank of Richmond
Mengbo Zhang
,
Shanghai University of Finance and Economics

Abstract

We document a new channel mediating the effects of monetary policy and regulation - the disintermediation channel. When the interest rate on excess reserves (IOER) increases, fewer banks intermediates in the Fed funds market, and they intermediate less. Similar effects happen after introducing Basel III and expanding the central bank's balance sheet. We develop a continuous-time search-and-bargaining model of divisible assets with endogenous search intensity. We solve the equilibrium in closed form regarding the dynamic distributions of trades and Fed fund rates as well as the stopping times of entry and exit. IOER reduces the dispersion of the marginal values of reserves, and hence the gain from intermediation. In general, the equilibrium is constrained inefficient, as banks intermediate too much too frequently.

Sequential Search For Corporate Bonds

Mahyar Kargar
,
University of Illinois-Urbana-Champaign
Benjamin R. Lester
,
Federal Reserve Bank of Philadelphia
Sebastien Plante
,
University of Wisconsin-Madison
Pierre-Olivier Weill
,
University of California-Los Angeles, NBER and CEPR

Abstract

TBD

Discussant(s)
Briana Chang
,
University of Wisconsin
John Kuong
,
INSEAD
Semih Uslu
,
Johns Hopkins University
Chien-Chiang Wang
,
National Taiwan University
JEL Classifications
  • E4 - Money and Interest Rates
  • E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit