Paper 6 Banking and Finance

About different channels

Link to Bernanke speech

  • Financial accelerator: changes in financial and credit conditions are important in the propagation of the business cycle, a mechanism that has been dubbed the “financial accelerator.”
  • Credit channel: changes in financial conditions may amplify the effects of monetary policy on the economy, the so-called credit channel of monetarypolicy transmission. Credit channel works through (wiki link)
    1. Balance sheet channel
    2. Bank lending channel

Models

  1. CSV model
  2. CE model

Both models can show the financial acceleartor and the credit channel: roughly speaking, the models predict/explain that when a shock happens, it will be amplified through the banking system because banks will change credit rationing behaviour. And when monetary policy is implemented, banks will change their behaviour as well.

Mechanism introduced in Rodnyansky and Darmouni

Link to the paper

  • Net worth channel
  • Liquidity channel

Quote: “We carefully explore two relevant channels by which large-scale asset purchases could exert influence on banks’ proclivity to lend via a balance sheet improvement. The first channel is the “net worth channel”: when asset purchases have a large impact on security prices, the policy increases the mark-to-market value of bank security holdings and in turn raises bank net worth, a mechanism recently labeled as “stealth recapitalization” by Brunnermeier and Sannikov (2014). We find this net worth channel to be at play during QE1, but not during the following waves of QE, consistent with previously established results about later rounds of QE having a smaller impact on MBS prices. In line with this view, we find that treated banks expanded assets and experienced gains on their security holdings only after QE1. On the other hand, QE3 appeared to have worked through a “liquidity channel”: As MBS became more liquid, banks could swap them for reserves and expand their lending. Additional illiquidity coming from more lending is mitigated by extra liquidity on the rest of the asset side. Our results reveal that there are multiple channels by which this supplementary liquidity created by QE can be used within the banking sector.”