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Targeted reduction in reserve requirement ratio and optimal monetary policy in China

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  • Wei, Xiaoyun
  • Han, Liyan

Abstract

We investigate the effect of targeted reduction in reserve requirement ratio (RRR) on macro stability based on a two-sector DSGE model with heterogeneous capital-labor ratios. We derive the optimal monetary policy rule and compute the central bank’s welfare losses. A monetary policy regime with targeted reduction in RRR is more effective for welfare loss reduction. Additionally, gains are greater under the shock to micro and small enterprises (MSEs) than they are to both large and medium enterprises and MSEs. A clearer accountability regime can yield lower loss. Specifically, targeted reduction in RRR should be responsible for employment and financial stability.

Suggested Citation

  • Wei, Xiaoyun & Han, Liyan, 2020. "Targeted reduction in reserve requirement ratio and optimal monetary policy in China," International Review of Economics & Finance, Elsevier, vol. 69(C), pages 209-230.
    • Handle: RePEc:eee:reveco:v:69:y:2020:i:c:p:209-230
    DOI: 10.1016/j.iref.2020.04.002
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    Keywords

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    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • D61 - Microeconomics - - Welfare Economics - - - Allocative Efficiency; Cost-Benefit Analysis
    • C73 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Stochastic and Dynamic Games; Evolutionary Games

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