Transmission II: Liquidity and Lending
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This is the second of a pair of chapters opening the ‘black box’ of the banking system to understand the transmission mechanism through which the People’s Bank of China tried to influence its money and credit intermediate target variables. Here we present a critique of the ‘industrial organisation’ framework and develop an alternative that fits with Chinese policymakers’ statements. Banks in the aggregate are not constrained by a need to raise deposits, but by the cost and availability of liquidity in the form of reserves. We discuss how this manifested in the Chinese financial system—not so much to explain how policy was able to use the bank liquidity constraint to manage lending, but to show why this was difficult in the 2000s.
KeywordsMonetary policy China Liquidity Central banking Lending Credit
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