July 11, 2012
Since the mid-1990s, the asset portfolios of Japanese banks have continuously tilted toward government bonds, while lending to firms has declined. In this paper, we investigate the causes and consequences of such changes in banks' behavior by introducing banks' asset portfolio decision into an otherwise standard New Keynesian dynamic stochastic general equilibrium model. In our model, banks construct their portfolios under the value at risk constraint, which requires banks to repay their debt regardless of the return on their assets or whether the maximum loss on their assets materialized. As a result, the maximum loss on assets and banks' net worth affect banks' balance sheet and asset portfolio allocation by changing their risk taking capacity. For instance, an increase in downside risks or a deterioration in banks' net worth reduces their risk taking capacity, and results in a contraction of their balance sheets as well as rebalancing of their portfolios toward government bonds, thus dampening output and inflation. We estimate the model by Bayesian estimation and find that such portfolio decisions played an important role in the accumulation of government bonds and deflation in Japan since the latter half of the 1990s.
Value at Risk Constraint; Banks' Asset Allocation; Deflation; Lost Decade.
The authors would like to thank Takatoshi Ito, Toshiki Jinushi, Munehisa Kasuya, Koichiro Kamada, Takeshi Kimura, Takashi Kozu, Eiji Maeda, Koji Nakamura, Kenji Nishizaki, Masashi Saito, Takatoshi Sekine, Yosuke Takeda, Tsutomu Watanabe, participants of the fourth University of Tokyo-Bank of Japan conference in November 2011, and the staff of the Research and Statistics Department, the Bank of Japan, for their useful comments. The views expressed in this paper are those of the authors and do not necessarily reflect the official views of the Bank of Japan.
|*||Associate Professor, Faculty of Economics, University of Tokyo
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