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Bank balance sheet dynamics under a regulatory liquidity-coverage-ratio constraint

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  • Lakshmi Balasubramanyan
  • David D. VanHoose

Abstract

This paper presents a dynamic model of a bank’s optimal choices of imposing a binding liquidity-coverage-ratio (LCR) constraint. Our baseline balance-sheet dynamics starts with portfolio separation and no LCR constraint. Under a scenario in which regulators prohibit banks from applying securities to fulf ll the LCR constraint, portfolio separation continues to hold, but deposit holdings depend on the extent to which the LCR constraint is binding. When banks are allowed to apply securities toward satisfying the constraint, portfolio separation can break down and lead to ambiguous effects on optimal dynamic loan and deposit paths. Our results indicate that under special cases in which portfolio separation holds, the LCR constraint affects bank-sheet dynamics in ways not previously recognized. As regulators move forward in implementing Basel III style LCR, it is imperative to understand the effects of the LCR constraint on bank balance-sheet dynamics.

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Bibliographic Info

Paper provided by Federal Reserve Bank of Cleveland in its series Working Paper with number 1209.

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Date of creation: 2012
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Handle: RePEc:fip:fedcwp:1209

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Keywords: Banks and banking ; Liquidity (Economics);

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  1. Hulsewig, Oliver & Mayer, Eric & Wollmershauser, Timo, 2006. "Bank loan supply and monetary policy transmission in Germany: An assessment based on matching impulse responses," Journal of Banking & Finance, Elsevier, Elsevier, vol. 30(10), pages 2893-2910, October.
  2. Goodfriend, Marvin, 1983. "Discount window borrowing, monetary policy, and the post-October 6, 1979 federal reserve operating procedure," Journal of Monetary Economics, Elsevier, Elsevier, vol. 12(3), pages 343-356, September.
  3. Cosimano, Thomas F, 1987. "The Federal Funds Market under Bank Deregulation," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 19(3), pages 326-39, August.
  4. Cosimano, Thomas F. & Van Huyck, John B., 1989. "Dynamic monetary control and interest rate stabilization," Journal of Monetary Economics, Elsevier, Elsevier, vol. 23(1), pages 53-63, January.
  5. Cosimano, Thomas F., 1988. "The banking industry under uncertain monetary policy," Journal of Banking & Finance, Elsevier, Elsevier, vol. 12(1), pages 117-139, March.
  6. Dutkowsky, Donald H. & VanHoose, David D., 2011. "Interest on bank reserves and optimal sweeping," Journal of Banking & Finance, Elsevier, Elsevier, vol. 35(9), pages 2491-2497, September.
  7. Sealey, C. Jr., 1985. "Portfolio separation for stockholder owned depository financial intermediaries," Journal of Banking & Finance, Elsevier, Elsevier, vol. 9(4), pages 477-490, December.
  8. Kenneth J. Kopecky & David D. Van Hoose, 2012. "Imperfect Competition in Bank Retail Markets, Deposit and Loan Rate Dynamics, and Incomplete Pass Through," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 44(6), pages 1185-1205, 09.
  9. Baltensperger, Ernst, 1980. "Alternative approaches to the theory of the banking firm," Journal of Monetary Economics, Elsevier, Elsevier, vol. 6(1), pages 1-37, January.
  10. Elyasiani, Elyas & Kopecky, Kenneth J & VanHoose, David, 1995. "Costs of Adjustment, Portfolio Separation, and the Dynamic Behavior of Bank Loans and Deposits," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 27(4), pages 955-74, November.
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Cited by:
  1. Hałaj, Grzegorz & Kok, Christoffer, 2014. "Modeling emergence of the interbank networks," Working Paper Series, European Central Bank 1646, European Central Bank.

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