Bank Liquidity And The Effect Of Monetary Policy Transmission: An Empirical Study

In China's banking system, the deposit gap has been first present since 1994. It has been creasing year by year and was fast growth. It resulted in a large number of liquid assets and the high level of the excess reserve ratio in banking system. In October 2005, the People's Bank of China raised the problem of excess liquidity for the first time in the report of commercial banks'excess liquidity. Later on the State Council Premier Wen Jiabao discussed the problem of commercial banks'excess liquidity in due form in 2006 government work report. From then on the problem of excess liquidity was involved in the formal consideration of China's macroeconomic policy. Viewing from the bank the excess liquidity is to point to a bank which holds too many excess reserves. The excess reserve ratio is the operation target of central bank's monetary policy, therefore its excessive holding maybe leads to the weakening effect of monetary policy. So this paper stands in the bank liquidity's angle to analyze the factors which influent the bank liquidity and the impact of the intermediate and eventual target of the monetary policy. Then through the analysis above investigate the effect of monetary policy transmission.This paper has four chapters, the research framework as follows:The first chapter is introduction. At first it describes the state of liquidity and the outstanding problems in economic operation in recent years, which leads to the problem of bank liquidity and the effect of monetary policy transmission, and explains the practical significance of the research. Then it makes the literature review from three aspects which are the raising and measure of liquidity, the channel of monetary policy transmission, and the influence of bank liquidity on monetary policy.The second chapter is the theories reviewed on the bank liquidity and monetary policy transmission. First centering on the endogenous money supply theory, the relationship between the commercial bank's activities and money supply, and banks'role in the monetary policy transmission these three aspects describes that banks play a key role in the monetary policy transmission. Second, it reviews and combines the classic theoretical model on bank liquidity holdings, and focus on the excess reserve demand model of Agénor,Aizenman and Hoffmaister which is a new model base on the reserve management model of Baltensperger, Prisman and Slovin. These lay a theoretical foundation for the empirical chapter later.The third chapter uses of the VAR model to analyze the impact of factors on bank liquidity. Based on the classic theoretical model for the needs of bank liquidity, we select five explanatory variables, i.e. required reserve ratio, fluctuation of the cash to deposit ratio, demand to time deposit ratio, the output gap and the penalty factor, to estimate the excess liquidity ratio and analyze their specific impact in a VAR model.The fourth chapter is the empirical test of the correlation among the bank liquidity, money supply, output and price level. Using the Granger causality test, cointegration test and impulse response analysis it conducts an empirical test of the relationship among the excess liquidity ratio and the money supply, the output, the price level in order to analyze the effect of monetary policy transmission in China.Through the empirical analysis above, it indicates that the level of bank liquidity is mainly derived from behavior of banks'own pursuit of profit maximization, but at the same time the excess reserve ratio of banks is also impacted by some involuntary factors. Excess reserve ration has influence on the intermediate and eventual target of the monetary policy. The level of bank liquidity plays a role in the monetary policy transmission. But the direction of the influence of the excess reserve ratio on the price level is not clear and temporary and there is little help to stabilize the price level. However, the influence of excess reserve ratio on the output is quite explicit negative and long-term. Therefore, paying much attention to the change of excess reserve ratio has great significance to achieve the macro goal which is promoting economic growth.