To support the understanding that banks’ debt issuance means money creation, while centralized nonbank financial institutions’ and decentralized bond market intermediary lending does not, the paper aims to convey two related points: First, the notion of money creation as a result of banks’ loan creation is compatible with the notion of liquid funding needs in a multi-bank system, in which liquid fund (reserve) transfers across banks happen naturally. Second, interest rate-based monetary policy has a bearing on macroeconomic dynamics precisely due to that multi-bank structure. It would lose its impact in the hypothetical case that only one (“singular”) commercial bank would exist. We link our discussion to the emergence and design of central bank digital currencies (CBDC), with a special focus on how loans would be granted in a CBDC world.
A framework that allows computing contagion effects from both direct exposure contagion and overlapping portfolios is presented. The effects of the latter are broken down into loss correlation, effects from fire sales and mark-to-market accounting. The impact can be quantified for any single contagion channel as well as when multiple channels are jointly active. The model can be used to compute contagion losses that are consistent with a given macroeconomic scenario and thus provides a macroprudential extension for microprudential stress tests. Empirical results for a real-world banking system suggest that contagion effects stemming from direct exposures have the highest loss contribution.
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