Working Paper: NBER ID: w30051
Authors: Arvind Krishnamurthy; Wenhao Li
Abstract: Bank-created money, shadow-bank money, and Treasury bonds all satisfy investors' demand for a liquid transaction medium and safe store of value. We measure the quantity of these three forms of liquidity and their corresponding liquidity premium over a sample from 1934 to 2016. We empirically examine the links between these different assets, estimating the extent to which they are substitutes, and the amount of liquidity per unit delivered by each asset. Treasury bonds and bank deposits are imperfect substitutes, in contrast to the findings of perfect substitutes of Nagel (2016). This result is directly relevant to the monetary transmission mechanism running through shifts in asset supplies, such as quantitative easing policies. Our results on the imperfect substitutability of bank and shadow-bank money also inform analyses of the coexistence of the shadow-banking and regulated banking system. We construct a new broad monetary aggregate based on our estimates and show that it helps resolve the money-demand instability and missing-money puzzles of the monetary economics literature.
Keywords: liquidity; monetary policy; substitutability; bank deposits; treasury bonds
JEL Codes: E41; E43; G21; G23
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| bank deposits (G21) | treasury bonds (H63) |
| non-transaction financial sector debt (G29) | treasury bonds (H63) |
| liquidity services of treasury bonds (E43) | liquidity services of non-transaction financial sector debt (G29) |
| shifts in asset supplies (G19) | liquidity premium (E41) |
| liquidity premium (E41) | monetary transmission mechanism (E52) |