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A theory of the non-neutrality of money with banking frictions and bank recapitalization

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  • Zhixiong Zeng

Abstract

The unconventional monetary policy actions of the Federal Reserve during the recent Global Financial Crisis often involve implicit subsidies to banks. This paper offers a theory of the non-neutrality of money associated with capital injection into banks via nominal transfers, in an environment where banking frictions are present in the sense that there exists an agency problem between banks and their private-sector creditors. The analysis is conducted within a general equilibrium setting with two-sided financial contracting. We first show that even with perfect nominal flexibility, the recapitalization policy has real effects on the economy. We then introduce banking riskiness shocks and study optimal policy responses to such shocks. Copyright Springer-Verlag 2013

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  • Zhixiong Zeng, 2013. "A theory of the non-neutrality of money with banking frictions and bank recapitalization," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 52(2), pages 729-754, March.
  • Handle: RePEc:spr:joecth:v:52:y:2013:i:2:p:729-754
    DOI: 10.1007/s00199-011-0662-2
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    3. Inekwe, John Nkwoma, 2021. "Finance and European regional economy," International Review of Financial Analysis, Elsevier, vol. 78(C).
    4. Zhixiong Zeng, 2013. "A theory of the non-neutrality of money with banking frictions and bank recapitalization," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 52(2), pages 729-754, March.
    5. Christian Ewerhart, 2013. "Regular type distributions in mechanism design and $$\rho $$ -concavity," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 53(3), pages 591-603, August.
    6. Kühl, Michael, 2017. "Bank capital, the state contingency of banks’ assets and its role for the transmission of shocks," Journal of Macroeconomics, Elsevier, vol. 54(PB), pages 260-284.
    7. Inekwe, John Nkwoma & Jin, Yi & Valenzuela, Ma. Rebecca, 2018. "The effects of financial distress: Evidence from US GDP growth," Economic Modelling, Elsevier, vol. 72(C), pages 8-21.
    8. John Nkwoma Inekwe, 2022. "Economic performance in Africa: The role of fragile financial system," The World Economy, Wiley Blackwell, vol. 45(6), pages 1910-1936, June.
    9. Kühl, Michael, 2014. "Mitigating financial stress in a bank-financed economy: Equity injections into banks or purchases of assets?," Discussion Papers 19/2014, Deutsche Bundesbank.
    10. Michael Kühl, 2018. "The Effects of Government Bond Purchases on Leverage Constraints of Banks and Non-Financial Firms," International Journal of Central Banking, International Journal of Central Banking, vol. 14(4), pages 93-161, September.
    11. Naohisa Hirakata & Nao Sudo & Kozo Ueda, 2013. "Is the net worth of financial intermediaries more important than that of non-financial firms?," Globalization Institute Working Papers 161, Federal Reserve Bank of Dallas.
    12. Górajski, Mariusz & Kuchta, Zbigniew, 2023. "Coordination and non-coordination risks of monetary and macroprudential authorities: A robust welfare analysis," The North American Journal of Economics and Finance, Elsevier, vol. 67(C).
    13. Jin, Yi & Zeng, Zhixiong, 2016. "Risk, risk aversion, and a finance-augmented neoclassical economic model of production," International Journal of Production Economics, Elsevier, vol. 176(C), pages 82-91.
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    15. Jin, Yi & Zeng, Zhixiong, 2014. "Banking risk and macroeconomic fluctuations," Journal of Banking & Finance, Elsevier, vol. 48(C), pages 350-360.

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    More about this item

    Keywords

    Bankruptcy of banks; Banking riskiness shocks; Two-sided debt contract; Unconventional monetary policy; Financial crisis; E44; E52; D82; D86;
    All these keywords.

    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design

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