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How do banks respond to increased funding uncertainty?


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Authors

Ritz, RA 
Walther, A 

Abstract

This paper presents a simple model of risk-averse banks that face uncertainty over funding conditions in the money market. It shows that increased funding uncertainty: (i) creates risk-based loan-deposit synergies, (ii) often causes banks' lending volumes and their profitability to decline, (iii) can explain more intense competition for retail deposits (including deposits turning into a "loss leader"), and (iv) typically dampens the rate of pass-through from changes in the central bank's policy rate to market interest rates. These results may help explain some elements of commercial banks' behaviour and the reduced e¤ectiveness of monetary policy during the 2007/9 financial crisis.

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Keywords

Bank lending, Interbank market, Interest rate pass-through, Loan-to-deposit ratio, Loan-deposit synergies, Loss leader, Monetary policy

Journal Title

European Economic Review

Conference Name

Journal ISSN

1042-9573

Volume Title

24

Publisher

Elsevier BV