60 Pages Posted: 19 Feb 2013 Last revised: 25 Aug 2017
Date Written: April 9, 2016
We show that banks' exposure to interest rate risk, or income gap, plays a crucial role in monetary policy transmission. While banks have, on average, positive levels of income gap - their assets are more sensitive to interest rate changes than their liabilities - there is substantial heterogeneity in the cross-section of banks in how exposed they are to interest rate risk. In a first step, we show that the sensitivity of bank profits to interest rates increases significantly with their income gap, even when banks use interest rate derivatives. In a second step, we show that the income gap also predicts the sensitivity of bank lending to interest rates, both for commercial & industrial loans and for mortgages. Quantitatively, a 100 basis point increase in the Fed funds rate leads a bank at the 75th percentile of the income gap distribution to increase lending by about 1.6 percentage points annually relative to a bank at the 25th percentile. We conclude that banks' exposure to interest rate risk is an important determinant of the lending channel.
Keywords: Interest rate risk, monetary policy, bank lending
JEL Classification: E52, G21, E44
Suggested Citation: Suggested Citation
Gomez, Matthieu and Landier, Augustin and Sraer, David Alexandre and Thesmar, David, Banks' Exposure to Interest Rate Risk and the Transmission of Monetary Policy (April 9, 2016). Available at SSRN: https://ssrn.com/abstract=2220360 or http://dx.doi.org/10.2139/ssrn.2220360