The Cost Channel Of Monetary Transmission

Monetary authorities implement monetary policy to contract macro-economy. Monetary transmission channels determine whether monetary policy would reach its primary targets. Traditional monetary transmission mainly focuses on aggregate demand, however this paper aims to analyze the cost channel of monetary transmission, not to deny the traditional monetary transmission theory, which could provide more information to the development of optimal monetary policy from supply point.Combined with rate channel and credit channel, cost channel influences aggregate demand of economy. Under the assumption of working capital, monetary authorities raise interest rate to make monetary contraction, which would make cost increase, and price and output would be influenced. When there is monetary shock, information asymmetry between corporations and finance institutions would make cost increase, also, output and price would be influenced. Whether cost channel effect is significant is related to the importance of working capital to corporations, efficiency of financial institutions, how much do corporations rely on bank loans and so on. Commercial banks, which would make independent effect on cost may weaken cost channel effect, play an important role in cost-credit channel.Monetary authorities make monetary contraction aiming to reduce inflation. However, cost channel effect weakens the initial target of monetary policy. Therefore monetary authorities should consider both aggregate demand and aggregate supply effect to make optimal monetary policy so as to control inflation and make stable economic growth.This paper contains both theoretical and empirical analysis. Theoretically, firstly, we summarize the traditional monetary transmission; secondly, we analyze the cost channel of monetary transmission; it contains assumptions, the direct mechanism of cost channel, the AD-AS model to compare the different effect between traditional and cost channel, cost-credit channel and the possibility of factors that affect the cost channel effect; finally, we discuss the optimal monetary policy under the cost channel. Empirically, firstly, we use ADF test to deal with the data; secondly, we use SVAR empirical model to make a research on cost channel in China. Finally, according to the theoretical and empirical analysis, we provide policy suggestions.The main results are as follows:Firstly, cost channel exactly exists theoretically and empirically, and monetary contraction would cause inflation in short term; secondly, whether cost channel effect is significant is related to the importance of working capital to corporations, efficiency of financial institutions, whether policy rate could be rapidly transferred and so on; thirdly, commercial banks, which would make independent effect on cost may weaken cost channel effect, play a important role in cost-credit channel; finally, optimal monetary policies under cost channel face trade-off between the output gap and inflation and the weakened effect would reduce the credibility of monetary policv.