Inflation, reserve requirements, and real interest rates with direct and indirect loan markets
Journal of Macroeconomics, Jun 1, 1995
ABSTRACT The paper constructs an overlapping generations model with a banking sector but allows f... more ABSTRACT The paper constructs an overlapping generations model with a banking sector but allows for both direct lending and indirect lending through banks. In this model we reexamine the long-run effects of a change in the inflation rate. An increase in the inflation rate raises the tax on banks, since they are required to hold reserves, and causes banks to lower deposit rates. This induces tow effects. First, some depositors switch from bank deposits to direct lending. This tends to lower loan rates of interest as direct lenders do not have to hold reserves. Second, some depositors will increase current consumption, and this tends to raise the loan rate. For reasonable values of the parameters the second effect may dominate even if the interest elasticity of consumption is very small.
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Papers by George Davis