Skip to main content

International monetary transmission with bank heterogeneity and default risk

Annals of Finance volume 10, pages 217–241 (2014)Cite this article

Abstract

This paper compares the effectiveness, efficiency and robustness of standard and non-standard monetary policy tools, such as the banks’ refinancing interest rate, penalty interest rate on deposit facility holdings and minimum reserve requirements on attracted deposits. The assessment is performed on the basis of a numerically evaluated open economy general equilibrium model for macro-prudential analysis where optimal decisions by internationally linked banks are key determinants of international financial flows and wider economic outcomes. Banks differ in terms of balance sheet endowments and risk preferences and take decisions rationally and competitively. Default risk, borrowing and lending are endogenous results of individual decisions of private agents (banks and households), as well as systemic outcomes of market interaction.

This is a preview of subscription content, access via your institution.

Access options

Buy single article

Instant access to the full article PDF.

USD 39.95

Price excludes VAT (USA)
Tax calculation will be finalised during checkout.

Fig. 1

Notes

  1. For a separate detailed analysis on the transmission of various regulatory policies and contingencies see Tsenova (2011).

  2. This data is publicly available at the website of the Bulgarian National Bank (BNB), as well as official banking supervision reports, such as BNB (2009a).

  3. For examples of standard representations of this type of models see Woodford (2003) and Smets and Wouters (2003).

  4. For detailed theoretical link between modelling partial repayment on obligation, partial default and probability of default see Tsomocos and Zicchino (2012).

  5. Note that the three representative households of type borrowers could be viewed as a pool of household loans or a portfolio of multiple household loans.

  6. In the EU countries, such schemes indeed exist, although there are certain bounds to the size of deposits fully covered. For example, in 2010 there was a unification in the minimum deposit size covered by state guarantee schemes, which was set to 100 thousand Euros.

  7. The Bulgarian Lev is pegged to the Euro at 1 Lev = 0.51129 Euro.

  8. See BNB, Bulgarian Gross Foreign Debt, July 2009, 24 September 2009b.

  9. Because the alternative case in which bank \(\delta \) experiences a liquidity crunch displays very similar results, it is not reported separately in the paper.

References

  • Alvarez, F., Atkeson, A., Kehoe, P.: Time-varying risk, interest rates, and exchange rates in general equilibrium. Rev Econ Stud 76, 851–878 (2009)

    Article  Google Scholar 

  • Aspachs, O., Goodhart, C.A.E., Tsomocos, D.P., Zicchino, L.: Towards a measure of financial fragility. Ann Financ 3(1), 37–74 (2007)

    Article  Google Scholar 

  • BNB: Banks in Bulgaria: April–June 2009. Bulgarian National Bank report 3 (2009a)

  • BNB: Bulgarian gross foreign debt. Bulgarian National Bank report 9 (2009b)

  • Calomiris, C.: An incentive-robust program for financial reform. Manch Sch 79(s2), 39–72 (2011)

    Article  Google Scholar 

  • Calomiris, C., Mason, J., Wheelock, D.: Did doubling reserve requirements cause the recession of 1937–1938? A microeconomic approach. NBER working paper 16688 (2011)

  • Cavalcanti, R.D.O., Wallace, N.: Inside and outside money as alternative media of exchange. J Money Credit Bank 31(3), 443–457 (1999)

    Article  Google Scholar 

  • Dubey, P., Geanakopolos, J.: Inside and outside fiat money, gains to trade, and IS-LM. Econ Theor 21, 347–397 (2003)

    Article  Google Scholar 

  • Dubey, P., Geanakopolos, J.: Determinancey with nominal assets and outside money. Econ Theor 27, 79–106 (2006)

    Article  Google Scholar 

  • Geanakoplos, J.D., Tsomocos, D.P.: International finance in general equilibrium. Res Econ 56(1), 85–142 (2002)

    Article  Google Scholar 

  • Gerali, A., Neri, S., Sessa, L., Signoretti, F.M.: Credit and banking in a DSGE model of the Euro area. J Money Credit Bank 42(s1), 107–141 (2010)

    Article  Google Scholar 

  • Choi, W.G., Cook, D.: Liability dollarization and the bank balance sheet channel. IMF working paper 141 (2002)

  • Goodhart, C.A.E.: The changing role of central banks. BIS working paper 326 (2010)

  • Goodhart, C.A.E., Sunirand, P., Tsomocos, D.: A model to analyse financial fragility: applications. J Financ Stab 1(1), 1–35 (2004)

    Article  Google Scholar 

  • Goodhart, C.A.E., Sunirand, P., Tsomocos, D.: A risk assessment model for banks. Ann Financ 1(2), 197–224 (2005)

    Article  Google Scholar 

  • Goodhart, C.A.E., Sunirand, P., Tsomocos, D.: A model to analyse financial fragility. Econ Theor 27(1), 107–142 (2006a)

    Article  Google Scholar 

  • Goodhart, C.A.E., Sunirand, P., Tsomocos, D.P.: A time series analysis of financial fragility in the UK banking system. Ann Financ 2(1), 1–21 (2006b)

    Article  Google Scholar 

  • Goodhart, C., Sunirand, P., Tsomocos, D.P.: The optimal monetary instrument for prudential purposes. J Financ Stab 7(2), 70–77 (2011)

    Article  Google Scholar 

  • Orphanides, A.: Monetary policy lessons from the crisis. CEPR discussion paper 7891 (2010)

  • Orphanides, A., Williams, J.: Learning, expectations formation, and the pitfalls of optimal control monetary policy. J Monet Econ 55, S80–S96 (2008)

    Article  Google Scholar 

  • Lee, J.H., Ryu, J., Tsomocos, D.P.: Measures of financial stress and financial fragility. Ann Financ (2012). doi:10.1007/s10436-012-0218-x

  • Mas-Colell, A., Whinston, M.D., Green, J.R.: Microeconomic theory. Oxford: Oxford University Press (1995)

  • Muth, J.F.: Rational expectations and the theory of price movements. Econometrica 29(3), 315–335 (1961)

    Article  Google Scholar 

  • Smets, F., Wouters, R.: An estimated dynamic stochastic general equilibrium model of the euro area. J Eur Econ Assoc 1(5), 1123–1175 (2003)

    Article  Google Scholar 

  • Tsenova, T.: International monetary and regulatory transmission with bank heterogeneity and default risk. Working paper (2011)

  • Tsenova, T.: Are long-term inflation expectations well-anchored? Evidence from the Euro area and the United States. Bull Econ Res (2012). doi:10.1111/j.1467-8586.2012.00474.x

  • Tsomocos, D.: Equilibrium analysis, banking and financial instability. J Math Econ 39(56), 619–655 (2003)

    Article  Google Scholar 

  • Tsomocos, D., Zicchino, L.: On modelling endogenous default. In: Goodhart, C.A.E., Tsomocos, D.P. (eds.) The Challenge of Financial Stability, Chapter 6, pp. 134–52. Cheltenham: Edward Elgar (2012)

  • Whitesell, W.: Interest rate corridors and reserves. J Monet Econ 53(6), 1177–1195 (2006)

    Article  Google Scholar 

  • Woodford, M.: Interest and Prices: Foundations of a Theory of Monetary Policy. Princeton: Princeton University Press (2003)

Download references

Acknowledgments

The author is grateful to the two antonymous referees who provided valuable suggestions and recommendations. The author would also like to thank Dimitrios Tsomocos, Robert Bliss, Charles Calomiris, Alex Cukierman, Andrea Gerali, John Geanakopolos, Ivan Iskrov, Dimitar Kostov, Tonny Lybek, Stefano Neri, Paolo Onofri, Marcelo Sanchez, Luca Sessa, Federico Maria Signoretti and Larry Wall for helpful support, comments and discussions.

Author information

Authors and Affiliations

  1. Bulgarian National Bank, 1, Knyaz Alexander I Square, 1000 , Sofia, Bulgaria

    Tsvetomira Tsenova

Authors
  1. Tsvetomira Tsenova
    View author publications

    You can also search for this author in PubMed Google Scholar

Corresponding author

Correspondence to Tsvetomira Tsenova.

Additional information

The opinions expressed are those of the author and do not necessarily reflect the official views of the Bulgarian National Bank and the European System of Central Banks.

Rights and permissions

Reprints and Permissions

About this article

Cite this article

Tsenova, T. International monetary transmission with bank heterogeneity and default risk. Ann Finance 10, 217–241 (2014). https://doi.org/10.1007/s10436-013-0241-6

Download citation

  • Received:

  • Accepted:

  • Published:

  • Issue Date:

  • DOI: https://doi.org/10.1007/s10436-013-0241-6

Keywords

  • Banking
  • Monetary policy
  • Non-standard instruments
  • Macro-prudential policies
  • Financial stability
  • Contingency planning

JEL Classification

  • D58
  • E44
  • E51
  • E52
  • E58
  • G21