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How do banks respond to increased funding uncertainty?

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  • Robert A. Ritz
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    Abstract

    This paper presents a simple model of risk-averse banks that face uncertainty over funding conditions in the money market.� It shows when increased funding uncertainty causes interest rates on loans and deposits to rise, while bank lending and bank profitability fall.� It also finds that funding uncertainty typically dampens the rate of pass-through from changes in the central bank's policy rate to market interest rates.� These results help explain observed bank behaviour and reduced effectiveness of monetary policy in the 2007/9 financial crisis.� Funding uncertainty also has strong implications for consumer welfare, and can turn deposits into a "loss leader" for banks.

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    File URL: http://www.economics.ox.ac.uk/materials/working_papers/paper481.pdf
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    Bibliographic Info

    Paper provided by University of Oxford, Department of Economics in its series Economics Series Working Papers with number 481.

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    Date of creation: 01 Mar 2010
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    Handle: RePEc:oxf:wpaper:481

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    Keywords: Bank lending; Interbank market; Interest rate pass-through; Loan-to-deposit ratio; Loan-deposit synergies; Loss leader; Monetary policy;

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