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Information problems and deposit constraints at banks

  • Jith Jayaratne
  • Donald Morgan

Following the investment-cash flow literature, we test whether bank lending is constrained by the availability of insured deposits--a necessary condition for the existence of bank lending channel of monetary policy. We treat insured deposits as a type of "internal fund," similar to cash flows. We use a simple model to sort out the possible identification issues in interpreting a lending-deposit correlation, including reverse causality and omitted variable bias. To minimize the latter, we split the sample of banks by leverage and also use deposit flows at sister banks within a holding company as an "instrument." The results are consistent with the existence of frictions in capital market facing banks, and that such frictions force bank lending to be constrained by the availability of insured deposits. However, the frictions seem to matter only at small banks, suggesting that the bank lending channel of monetary policy is small. We also find evidence that bank holding companies mitigate these frictions by forming internal markets for allocating insured deposits among affiliated banks.

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Paper provided by Federal Reserve Bank of New York in its series Research Paper with number 9731.

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Date of creation: 1997
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Handle: RePEc:fip:fednrp:9731
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  1. Steven Fazzari & R. Glenn Hubbard & Bruce C. Petersen, 1987. "Financing Constraints and Corporate Investment," NBER Working Papers 2387, National Bureau of Economic Research, Inc.
  2. Anil K Kashyap & Jeremy C. Stein, 1997. "What Do a Million Banks Have to Say About the Transmission of Monetary Policy?," NBER Working Papers 6056, National Bureau of Economic Research, Inc.
  3. Stephen D. Oliner & Glenn D. Rudebusch, 1996. "Is there a broad credit channel for monetary policy?," Economic Review, Federal Reserve Bank of San Francisco, pages 3-13.
  4. Kishan, Ruby P & Opiela, Timothy P, 2000. "Bank Size, Bank Capital, and the Bank Lending Channel," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 32(1), pages 121-41, February.
  5. Bengt Holmstrom & Jean Tirole, 1994. "Financial Intermediation, Loanable Funds and the Real Sector," Working papers 95-1, Massachusetts Institute of Technology (MIT), Department of Economics.
  6. Christina D. Romer & David H. Romer, 1990. "New Evidence on the Monetary Transmission Mechanism," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 21(1), pages 149-214.
  7. Owen Lamont, 1996. "Cash Flow and Investment: Evidence from Internal Capital Markets," NBER Working Papers 5499, National Bureau of Economic Research, Inc.
  8. Jeremy C. Stein, 1995. "An Adverse Selection Model of Bank Asset and Liability Management with Implications for the Transmission of Monetary Policy," NBER Working Papers 5217, National Bureau of Economic Research, Inc.
  9. Diamond, Douglas W, 1989. "Reputation Acquisition in Debt Markets," Journal of Political Economy, University of Chicago Press, vol. 97(4), pages 828-62, August.
  10. Anil K Kashyap & Jeremy C. Stein, 1994. "The Impact of Monetary Policy on Bank Balance Sheets," NBER Working Papers 4821, National Bureau of Economic Research, Inc.
  11. Diamond, Douglas W, 1984. "Financial Intermediation and Delegated Monitoring," Review of Economic Studies, Wiley Blackwell, vol. 51(3), pages 393-414, July.
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