Negative Interest Rates, Excess Liquidity and Bank Business Models: Banks’ Reaction to Unconventional Monetary Policy in the Euro Area

37 Pages Posted: 27 Mar 2017 Last revised: 24 May 2017

Selva Demiralp

Koc University - Department of Economics

Jens Eisenschmidt

European Central Bank (ECB)

Thomas Vlassopoulos

European Central Bank (ECB)

Date Written: February 1, 2017

Abstract

In June 2014 the ECB became the first major central bank to lower one of its key policy rates to negative territory. The theoretical and empirical literature is silent on whether banks’ reaction would be different when the policy rate is lowered to negative levels compared to a standard reaction to a rate cut. In this paper we examine this question empirically by using individual bank data for the euro area to identify possible adjustments by banks triggered by the introduction of negative interest rates through three channels: government bond holdings, bank lending, and wholesale funding. We find evidence of a significant adjustment of banks’ balance sheets during the negative interest rate period. Banks tend to extend more loans, hold more non-domestic government bonds and rely less on wholesale funding. The nature and scope of the adjustment depends on banks’ business models.

JEL Classification: negative rates, bank balance sheets, monetary transmission mechanism

Suggested Citation

Demiralp, Selva and Eisenschmidt, Jens and Vlassopoulos, Thomas, Negative Interest Rates, Excess Liquidity and Bank Business Models: Banks’ Reaction to Unconventional Monetary Policy in the Euro Area (February 1, 2017). Available at SSRN: https://ssrn.com/abstract=2941377

Selva Demiralp (Contact Author)

Koc University - Department of Economics ( email )

Rumeli Feneri Yolu
Sariyer 80910 Istanbul
Turkey
+212 338 1842 (Phone)

Jens Eisenschmidt

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany

Thomas Vlassopoulos

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany

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