Reserves, Liquidity and Money: An Assessment of Balance Sheet Policies

44 Pages Posted: 23 Apr 2012

See all articles by Jagjit S. Chadha

Jagjit S. Chadha

University of St. Andrews - School of Management

Luisa Corrado

University of Rome Tor Vergata Department of Economics and Finance

Jack Meaning

University of Kent - Canterbury Campus

Multiple version iconThere are 2 versions of this paper

Date Written: April, 23 2012

Abstract

The financial crisis and its aftermath has stimulated a vigorous debate on the use of macro-prudential instruments for both regulating the banking system and for providing additional tools for monetary policy makers. The widespread adoption of non-conventional monetary policies has provided some evidence on the efficacy of liquidity and asset purchases for offsetting the lower zero bound. Central banks have thus been reminded as to the effectiveness of extended open market operations as a supplementary tool of monetary policy. These tools are essentially fiscal instruments, as they issue central bank liabilities backed by fiscal transfers. And so having written these tools into the fiscal budget constraint, we can examine the consequences of these operations within the context of a micro-founded macroeconomic model of banking and money. We can mimic the responses of the Federal Reserve balance sheet to the crisis. Specifically, we examine the role of reserves for bond and capital swaps in stabilising the economy and also the impact of changing the composition of the central bank balance sheet. We find that such policies can significantly enhance the ability of the central bank to stabilise the economy. This is because balance sheet operations supply (remove) liquidity to a financial market that is otherwise short (long) of liquidity and hence allows other financial spreads to move less violently over the cycle to compensate.

Keywords: non-conventional monetary interest on reserves, monetary and scal policy instruments, Basel III

JEL Classification: E31, E40, E51

Suggested Citation

Chadha, Jagjit S. and Corrado, Luisa and Meaning, Jack, Reserves, Liquidity and Money: An Assessment of Balance Sheet Policies (April, 23 2012). CEIS Working Paper No. 230. Available at SSRN: https://ssrn.com/abstract=2044824 or http://dx.doi.org/10.2139/ssrn.2044824

Jagjit S. Chadha

University of St. Andrews - School of Management ( email )

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HOME PAGE: http://www.st-andrews.ac.uk/economics/staff/pages/j.chadha.shtml

Luisa Corrado (Contact Author)

University of Rome Tor Vergata Department of Economics and Finance ( email )

Via Columbia n.2
Rome, rome 00100
Italy

Jack Meaning

University of Kent - Canterbury Campus ( email )

Keynes College
Canterbury, Kent CT2 7NP
United Kingdom

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