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Monetary Policy, Bank Leverage, and Financial Stability
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Author/Editor: |
Valencia, Fabian |
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October 1, 2011 |
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Electronic Access: |
Free Full Text (PDF file size is 1,935KB)
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Disclaimer: This Working Paper should not be reported as representing the views of the IMF. The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate.
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Summary: This paper develops a model to assess how monetary policy rates affect bank risk-taking. In the model, a reduction in the risk-free rate increases lending profitability by reducing funding costs and increasing the surplus the monopolistic bank extracts from borrowers. Under limited liability, this increased profitability affects only upside returns, inducing the bank to take excessive leverage and hence risk. Excessive risk-taking increases as the interest rate decreases. At a broader level, the model illustrates how a benign macroeconomic environment can lead to excessive risk-taking, and thus it highlights a role for macroprudential regulation.
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Order a print copy
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Series: |
Working Paper No. 11/244 |
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Subject(s): |
Monetary policy | Bank rates | Profits | Interest rates on loans | Interest rates on deposits | Credit risk | Bank supervision |
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Author's keyword(s): |
Financial Stability
| Bank Leverage
| Monetary Policy
| Macroprudential regulation
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Published: |
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October 1, 2011 |
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Format: |
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Paper |
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Stock No: |
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WPIEA2011244 |
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Pages: |
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37 |
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Price: |
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US$18.00 (Academic Rate: US$18.00 )
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