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Bank Recapitalizations, Credit Supply, and the Transmission of Monetary Policy

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  • Mark Mink
  • Sebastiaan Pool

Abstract

We integrate a banking sector in a standard New-Keynesian DSGE model, and examine how government policies to recapitalize banks after a crisis affect the supply of credit and the transmission of monetary policy. We examine two types of recapitalizations: immediate and delayed ones. In the steady state, both policies cause the banking sector to charge inefficiently low lending rates, which leads to an inefficiently large capital stock. Raising bank equity requirements reduces this dynamic inefficiency and increases lifetime utility. After the banking sector suffered large losses, a delay in recapitalizations creates banking sector debt-overhang. This debt-overhang leads to inefficiently high lending rates, which reduces the supply of credit and weakens the transmission of monetary policy to inflation (the transmission to output is largely unchanged). Raising bank equity requirements under these circumstances can cause lifetime utility to decline. Hence, the timing of bank recapitalizations after a crisis has several macro-economic implications.

Suggested Citation

  • Mark Mink & Sebastiaan Pool, 2018. "Bank Recapitalizations, Credit Supply, and the Transmission of Monetary Policy," DNB Working Papers 616, Netherlands Central Bank, Research Department.
  • Handle: RePEc:dnb:dnbwpp:616
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    References listed on IDEAS

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    More about this item

    Keywords

    bank recapitalizations; credit supply; monetary policy transmission; bank equity requirements; NK-DSGE models;

    JEL classification:

    • E30 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - General (includes Measurement and Data)
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination

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