Monetary Policy and Bank Churn
Anthony Lee Zhang, Assistant Professor of Finance
This project is joint work with Erica Xuewei Jiang, at the University of Southern California Marshall School of Business. We hypothesize that monetary policy promotes bank churn: interest rate increases induce new bank entry and incumbent exit. We have built a model of banking industry dynamics in which banks do maturity transformation and face capital constraints. Rate increases create losses on incumbents' loans. This tightens capital constraints, causing incumbents to scale down lending, encouraging new bank entry. The model predicts that Fed Funds rate increases tend to promote entry in areas where incumbent banks have negative exposure to interest rate increases, and where incumbents are less well-capitalized. We aim to test the predictions of the model empirically.