Abstract
We show that negative monetary policy rates induce systemic banks to reach-for-yield. For identification, we exploit the introduction of negative deposit rates by the European Central Bank in June 2014 and a novel securities register for the 26 largest euro area banking groups. Banks with more customer deposits are negatively affected by negative rates, as they do not pass negative rates to retail customers, in turn investing more in securities, especially in those yielding higher returns. Effects are stronger for less capitalized banks, private sector (financial and non-financial) securities and dollar-denominated securities. Affected banks also take higher risk in loans.
Highlights
We thank Raj Iyer for providing valuable suggestions in the early stage of this project
We find robust evidence that negative policy rates lead to reach-for-yield behavior in the securities holdings of more exposed banks
We look at the heterogeneity of effects across distinct asset classes and currencies, and how these effects vary with the maturity of securities, as well as with banks’ equity ratios
Summary
There is a large literature addressing the impact of monetary policy rates on banks’ balance sheets. Banks with different deposit ratios are affected differentially when policy rates reach negative territory and this provides a way to identify the effects of NPRs on bank risk-taking in securities (i.e., reach-for-yield) and isolate them from other forces that shape both monetary policy and the investment behavior of large euro area banks. Banks do not necessarily incur losses on their holdings at negative values of the ACY, for example, since securities may have been bought earlier at different prices
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