Excess Liquidity, Bank Pricing Rules, and Monetary Policy

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Excess Liquidity, Bank Pricing Rules, and Monetary Policy

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Pierre-Richard Agénor
Karim El Aynaoui

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Pierre-Richard Agénor

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.

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Paper provided by Economics, The Univeristy of Manchester in its series Centre for Growth and Business Cycle Research Discussion Paper Series with number 105.

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Length: 39 pages
Date of creation: 2008
Date of revision:
Handle: RePEc:man:cgbcrp:105

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This paper has been announced in the following NEP Reports:

NEP-ALL-2008-10-07 (All new papers)
NEP-CBA-2008-10-07 (Central Banking)
NEP-MAC-2008-10-07 (Macroeconomics)
NEP-MON-2008-10-07 (Monetary Economics)

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Other versions:
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Other versions:
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Other versions:
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