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A Trade-off Between Monetary Policy Transmission and Systemic Risk in China

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Listed:
  • Kaiji Chen
  • Yiqing Xiao
  • Tao Zha

Abstract

We examine how interbank wholesale funding shapes the transmission of interest-rate-based monetary policy in China and contributes to systemic risk. Using a bank-level quarterly panel dataset and an estimated policy rule for the 7-day repo rate, we find that access to wholesale funding amplifies the transmission of monetary policy easing to lending by non-state banks, but also heightens their vulnerability to systemic risk during economic downturns. Since 2018, non-state banks with greater reliance on wholesale funding have experienced larger increases in expected capital shortfalls. To interpret these findings, we develop a structural model that incorporates a dual-track interest rate system and a segmented deposit market. The model quantifies the role of a liquidity reallocation channel from state to non-state banks and reveals a macroprudential trade-off: tighter regulation of wholesale funding weakens the effectiveness of monetary policy but mitigates systemic risk.

Suggested Citation

  • Kaiji Chen & Yiqing Xiao & Tao Zha, 2025. "A Trade-off Between Monetary Policy Transmission and Systemic Risk in China," NBER Working Papers 34056, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberwo:34056
    Note: AP DEV EFG ME
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    More about this item

    JEL classification:

    • E02 - Macroeconomics and Monetary Economics - - General - - - Institutions and the Macroeconomy
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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