Essays on intermediation, the payments system and monetary policy implementation

Ghwee, Justen Rene Kok Lye
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This first essay reconsiders how a central bank might tailor its monetary policy in response to a liquidity shortage problem that arises from payments system design. Short run monetary intervention that completely mitigates liquidity shortage achieves Pareto optimality. However, it is not Pareto improving: by inducing shifts in agents’ portfolio choice, short run monetary policy alters the long term real interest rate, and consequently, the distribution of consumption goods among heterogeneous agents. A regime that pays interest on reserves could attain Pareto improving allocation, but is never Pareto optimal. Under the interest on reserves scheme, the central bank can pursue policy targeting the quantity of reserves balances for liquidity provision purpose independently of policy targeting the interest rate for other broad monetary policy objectives. vi The second essay evaluates the performance of the quadratic linear programming (QLP) method in accounting for a bank’s liquidity management over the ten-day reserves maintenance period (RMP). The QLP method reasonably captures the qualitative features of the bank’s demand for excess reserves. The simulated demand schedule is weakly J-shaped, implying greater demand for reserves as the reserve settlement day approaches. While institutional features account for the cyclical patterns in the earlier days of the RMP, bank’s reserves “locked-in” cost avoidance activity and uncertainty about the size of central bank refinancing rationalize the large surge in the demand for reserves towards the settlement day. However, the QLP method is less successful in emulating the magnitude of the reserves demand dynamics comparable to that observed in the data. The third essay examines the nature of equilibrium credit rationing under different assumptions with regard to investment technologies available to entrepreneurs applying for loans. Lenders ration credit to borrowers with low-risk investment technology in the form of (i) the constrained size of loan allotment, or (ii) the uncertainty in loan granting, but not both. The realized type of rationing depends on how much the borrower perceives the value of not being the recipient of one type of rationing over the other. Different loan market structures also imply different equilibrium loan contracts.