Working Paper: CEPR ID: DP16907
Authors: Viral Acharya; Raghuram Rajan
Abstract: Central bank balance sheet expansion, through actions like quantitative easing, is run through commercial banks. While this increases liquid central bank reserves held on commercial bank balance sheets, demandable uninsured deposits issued to finance the reserves also increase. A subsequent shrinkage in the central bank balance sheet may entail a shrinkage in bank-held reserves without a commensurate reduction in deposit claims. Furthermore, during episodes of liquidity stress, when many claims on liquidity are called, surplus banks may hoard reserves. As a result of such bank behavior, central bank balance sheet expansion may create less additional liquidity than typically thought, and in fact, may increase the probability and severity of episodes of liquidity stress.
Keywords: quantitative easing; central bank balance sheet; financial stability; repo rate spike; liquidity hoarding; liquidity dependence; margin requirements; capital requirements
JEL Codes: G01; G2; E5
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Central bank reserves (E58) | demandable deposits (E41) |
| demandable deposits (E41) | demand for liquidity (E41) |
| demand for liquidity (E41) | available reserves (L72) |
| liquidity stress (G33) | banks hoarding reserves (E58) |
| banks hoarding reserves (E58) | liquidity shortages (E51) |
| increase in reserves (F31) | increased demand for liquidity (E41) |
| increased demand for liquidity (E41) | stress in the banking system (F65) |