Monetary Policy and Global Bank Lending: A Reversal Interest Rate Approach (Latest version)

Joint with Philipp Wangner. Job Market Paper.

This paper studies the impact of monetary policy on the credit allocation of globally operating banks. First, we document that, at the country level, banks’ bias toward domestic lending fell in the early 2000s but increased by 10% during the low interest rate period after the Global Financial Crisis. To account for this finding, we develop an analytical framework for global banking based on a portfolio approach. In the model, global bank allocates their lending to both domestic and foreign borrowers for diversification benefits, but foreign lending comprises higher uncertainty due to cross-border frictions. Managing the uncertainty is costly and depends on banks’ profitability driven by margins between lending and deposit rates. As a result, the effect of expansionary monetary policy on bank lending allocation is state-dependent. In times of low interest rates and large balance sheet sizes, a further cut in the interest rate decreases bank profitability and has opposite effects on domestic and foreign lending, thereby increasing home bias. Extending the model to a dynamic general equilibrium setup with nominal rigidities, we find that with the portfolio re-balancing of the global banks, the prolonged period of low interest rates is accompanied by a persistently high home bias, as shown in the data, and the overall effectiveness of monetary policy is compromised.

Presented at TSE Macro Workshop, TSE Finance Workshop, European Economic Association Conference 2022 in Milano, the Young Economist Symposium 2022 in New Haven. Accepted by CEMLA / Dallas Fed Financial Stability Workshop, Tsinghua Center for International Finance and Economics Research (CIFER) 2022 International Conference on US-China Trade Disputes and Rearchitecture in Globalization.

Uncertainty Shock(s)

Joint with Hussein Bidawi. Draft available upon request.

This paper provides evidence that the current identification of uncertainty shock using structural autoregression (SVAR) models is polluted by different shocks and proposes distinguishing between uncertainty about the future and first-order shock to sentiment. We first establish that uncertainty shock identified in SVAR models is composed of multiple shocks by showing that the same identification scheme of uncertainty shock generates vastly different responses of real economy variables if we switch between different uncertainty proxies. Next, we separately identify an aggregate uncertainty shock from stock and gold prices and volatilities and quantify the different effects on consumer sentiment. Using firm-level sentiment measures from textual analysis, we further provide evidence for the link between firm-level uncertainty and sentiment. Lastly, we rationalize how sentiment and uncertainty interact through information acquisition under rational inattention using a theoretical framework.

Shadow Banks vs. Commercial Banks: Different Responses or Different Shocks?

Draft available upon request.

This paper provides new empirical evidence on the heterogeneity inside the financial intermediary sector, namely the collection of commercial banks and shadow banks. We run two sets of experiments to explore the reaction of different banking sectors to different shocks, using a structural VAR model. In the first experiments, we adopt both short-run and proxy identification methods to check how they react to monetary policy shocks and discover that the same contractionary monetary shock triggers different responses in commercial banks and government-sponsored enterprises (GSEs). In the second experiment, we use the max share identification method to respectively determine the shocks that affect banks and shadow banks the most. We find that the shocks are potentially different across commercial banks and GSEs, but commercial banks and private shadow banks might be highly connected. These results confirm that understanding the heterogeneity and interconnectedness of the financial intermediary sector is essential for ensuring both policy effectiveness and economic stability. Therefore, sector-specific supervision and regulations of the banking system could be potentially helpful in terms of monitoring how shocks may propagate through and be amplified by the financial system.

Work in Progress