Discussion of:Money and Banking in a New Keynesian Model

M. Piazzesi C. Rogers M. Schneider

Tommaso Monacelli - Bocconi University, IGIER and CEPR

ECB Money Macro Workshop21-22 March 2019

This paper

I Policy instrument: interest rate on a short safe asset with aconvenience yield

shadow rate = policy rate + convenience yield︸ ︷︷ ︸ (endogenousto spending)

↑ policy rate → ↓ spending︸ ︷︷ ︸intertemporalchannel

→ ↓ convenience yield→

→ ↓ shadow rate→ ↑ spending

This paper

I Policy instrument: interest rate on a short safe asset with aconvenience yield

shadow rate = policy rate + convenience yield︸ ︷︷ ︸ (endogenousto spending)

↑ policy rate → ↓ spending︸ ︷︷ ︸intertemporalchannel

→ ↓ convenience yield→

→ ↓ shadow rate→ ↑ spending

This paper

I Policy instrument: interest rate on a short safe asset with aconvenience yield

shadow rate = policy rate + convenience yield︸ ︷︷ ︸ (endogenousto spending)

↑ policy rate → ↓ spending︸ ︷︷ ︸intertemporalchannel

→ ↓ convenience yield→

→ ↓ shadow rate→ ↑ spending

I Low pass-through: from policy to shadow rate

I Weakened transmission mechanism on spending.I Caveat: still feature fundamental weakness of baseline NKmodel, i.e., excess reliance on intertemporal channel

I Low pass-through: from policy to shadow rateI Weakened transmission mechanism on spending.

I Caveat: still feature fundamental weakness of baseline NKmodel, i.e., excess reliance on intertemporal channel

I Low pass-through: from policy to shadow rateI Weakened transmission mechanism on spending.I Caveat: still feature fundamental weakness of baseline NKmodel, i.e., excess reliance on intertemporal channel

Focus: model with banks

Model with banks

I Distinction: inside money (banks deposits) vs outside money(reserves)

I Reserves have a convenience yield: used by banks as acollateral to back inside money (deposits)

I Policy rate is the interest rate on reserves → Lend naturallyto describe floor system with abundant reserves (Fed after2008)

I Banks set the deposit rate → Natural to think of banks’market power

Model with banks

I Distinction: inside money (banks deposits) vs outside money(reserves)

I Reserves have a convenience yield: used by banks as acollateral to back inside money (deposits)

I Policy rate is the interest rate on reserves → Lend naturallyto describe floor system with abundant reserves (Fed after2008)

I Banks set the deposit rate → Natural to think of banks’market power

Model with banks

I Distinction: inside money (banks deposits) vs outside money(reserves)

I Reserves have a convenience yield: used by banks as acollateral to back inside money (deposits)

I Policy rate is the interest rate on reserves → Lend naturallyto describe floor system with abundant reserves (Fed after2008)

I Banks set the deposit rate → Natural to think of banks’market power

Model with banks

I Distinction: inside money (banks deposits) vs outside money(reserves)

I Reserves have a convenience yield: used by banks as acollateral to back inside money (deposits)

I Policy rate is the interest rate on reserves → Lend naturallyto describe floor system with abundant reserves (Fed after2008)

I Banks set the deposit rate → Natural to think of banks’market power

Model with banks

I Distinction: inside money (banks deposits) vs outside money(reserves)

I Reserves have a convenience yield: used by banks as acollateral to back inside money (deposits)

I Policy rate is the interest rate on reserves → Lend naturallyto describe floor system with abundant reserves (Fed after2008)

I Banks set the deposit rate → Natural to think of banks’market power

Traditional corridor system

Floor system

Floor system

I Money (ie. supply of reserves) divorced from monetary policy

I Key: how to set the supply of reserves? Anywhere in theflat portion of demand function

I → New layer of policy. To be modelled.

Floor system

I Money (ie. supply of reserves) divorced from monetary policyI Key: how to set the supply of reserves? Anywhere in theflat portion of demand function

I → New layer of policy. To be modelled.

Floor system

I Money (ie. supply of reserves) divorced from monetary policyI Key: how to set the supply of reserves? Anywhere in theflat portion of demand function

I → New layer of policy. To be modelled.

Modelling the transmission mechanism: banksdeposits

Banks deposit rates

I Bank deposit rates adjust slowly to policy rates

I (Banks) Deposit channel of monetary policyI Drachsel et al. (2016): 100 bp increase in FFR → Spreadwith deposit rate increases by 54bp

Banks deposit rates

I Bank deposit rates adjust slowly to policy ratesI (Banks) Deposit channel of monetary policy

I Drachsel et al. (2016): 100 bp increase in FFR → Spreadwith deposit rate increases by 54bp

Banks deposit rates

I Bank deposit rates adjust slowly to policy ratesI (Banks) Deposit channel of monetary policyI Drachsel et al. (2016): 100 bp increase in FFR → Spreadwith deposit rate increases by 54bp

Model with banks and floor system

I In the model deposit spread and policy spread areproportional

iSt − iDt︸ ︷︷ ︸depositspread

= µ ·(iSt − iMt

)︸ ︷︷ ︸

policyspread

I Deposit rate moves 1:1 with policy rate.

I Not consistent with empirical evidence

Model with banks and floor system

I In the model deposit spread and policy spread areproportional

iSt − iDt︸ ︷︷ ︸depositspread

= µ ·(iSt − iMt

)︸ ︷︷ ︸

policyspread

I Deposit rate moves 1:1 with policy rate.I Not consistent with empirical evidence

Model with banks and floor system

I In the model deposit spread and policy spread areproportional

iSt − iDt︸ ︷︷ ︸depositspread

= µ ·(iSt − iMt

)︸ ︷︷ ︸

policyspread

I Deposit rate moves 1:1 with policy rate.I Not consistent with empirical evidence

Weakened transmission mechanism: a necessaryfeature of money and banking in the NK model?

Low pass-through on deposit rates and amplification

I Can build a model in which pass through to banks’depositrate is low AND transmission on spending amplified

I Elements for amplification

1. Low pass-through to bank deposit rates2. Substitution from deposits to bonds on banks’liability side3. Households (or firms’) borrowing frictions

Low pass-through on deposit rates and amplification

I Can build a model in which pass through to banks’depositrate is low AND transmission on spending amplified

I Elements for amplification

1. Low pass-through to bank deposit rates2. Substitution from deposits to bonds on banks’liability side3. Households (or firms’) borrowing frictions

Low pass-through on deposit rates and amplification

I Can build a model in which pass through to banks’depositrate is low AND transmission on spending amplified

I Elements for amplification

1. Low pass-through to bank deposit rates

2. Substitution from deposits to bonds on banks’liability side3. Households (or firms’) borrowing frictions

Low pass-through on deposit rates and amplification

I Can build a model in which pass through to banks’depositrate is low AND transmission on spending amplified

I Elements for amplification

1. Low pass-through to bank deposit rates2. Substitution from deposits to bonds on banks’liability side

3. Households (or firms’) borrowing frictions

Low pass-through on deposit rates and amplification

I Can build a model in which pass through to banks’depositrate is low AND transmission on spending amplified

I Elements for amplification

1. Low pass-through to bank deposit rates2. Substitution from deposits to bonds on banks’liability side3. Households (or firms’) borrowing frictions

Low pass-through on deposit rates and amplification

I Can build a model in which pass through to banks’depositrate is low AND transmission on spending amplified

I Elements for amplification

1. Low pass-through to bank deposit rates2. Substitution from deposits to bonds on banks’liability side3. Households (or firms’) borrowing frictions

I Low pass-through on banks deposit rates: can berationalized with "customer base motive" → profit smoothing(deep habits on deposits, eg, Polo 2019)

↑ ipolicy: if ↑ iD →↓ current profits

↑ ipolicy: if ↓ iD → ↓ current and future customer base

I In equilibrium: low pass-through on iD + outflow of deposits

Low pass-through on deposit rates and amplification(con’t)

I Banks substitute deposit with bonds (at higher cost)

→ ↑ ibonds

I ↑ ibonds → ↑imortgage → ↓ borrowers spending (high MPC)

→ Amplification

Taking stock

1. Want a model where policy interest rate is the interest rate onthe safe asset featuring a convenience yield (OK)

2. Want to match low pass through to short term interest(shadow) rate (OK)

3. Want to match low pass through to banks deposit rate (X)4. Want NK model 2.0 to rely less on intertemporalsubstitution. → (2) does not necessarily imply a weakenedtransmission mechanism

Taking stock

1. Want a model where policy interest rate is the interest rate onthe safe asset featuring a convenience yield (OK)

2. Want to match low pass through to short term interest(shadow) rate (OK)

3. Want to match low pass through to banks deposit rate (X)4. Want NK model 2.0 to rely less on intertemporalsubstitution. → (2) does not necessarily imply a weakenedtransmission mechanism

Taking stock

1. Want a model where policy interest rate is the interest rate onthe safe asset featuring a convenience yield (OK)

2. Want to match low pass through to short term interest(shadow) rate (OK)

3. Want to match low pass through to banks deposit rate (X)

4. Want NK model 2.0 to rely less on intertemporalsubstitution. → (2) does not necessarily imply a weakenedtransmission mechanism

Taking stock

1. Want a model where policy interest rate is the interest rate onthe safe asset featuring a convenience yield (OK)

2. Want to match low pass through to short term interest(shadow) rate (OK)

3. Want to match low pass through to banks deposit rate (X)4. Want NK model 2.0 to rely less on intertemporalsubstitution. → (2) does not necessarily imply a weakenedtransmission mechanism

Conclusions

I Great paper!I Lots of food for thoughtI Needed a stylized modeling of banks in baseline NK modelI Still some way to go in modeling the monetary transmissionmechanism in full