Banks' Exposure to Interest Rate Risk and the Transmission of Monetary Policy

50 Pages Posted: 19 Feb 2013 Last revised: 16 Jul 2015

Augustin Landier

Toulouse School of Economics

David Alexandre Sraer

University of California, Berkeley; Princeton University

David Thesmar

MIT Sloan

Date Written: July 16, 2015

Abstract

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

Landier, Augustin and Sraer, David Alexandre and Thesmar, David, Banks' Exposure to Interest Rate Risk and the Transmission of Monetary Policy (July 16, 2015). Available at SSRN: https://ssrn.com/abstract=2220360 or http://dx.doi.org/10.2139/ssrn.2220360

Augustin Landier

Toulouse School of Economics ( email )

Place Anatole-France
Toulouse Cedex, F-31042
France

David Alexandre Sraer

University of California, Berkeley ( email )

310 Barrows Hall
Berkeley, CA 94720
United States

Princeton University ( email )

22 Chambers Street
Princeton, NJ 08544
United States

David Thesmar (Contact Author)

MIT Sloan ( email )

77 Massachusetts Avenue
Cambridge, MA 02139-4307
United States
16172259767 (Phone)

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