Central Bank Policy and the Concentration of Risk: Empirical Estimates

Coimbra, N, Kim, D and Rey, H (2022) Central Bank Policy and the Concentration of Risk: Empirical Estimates. Journal of Monetary Economics, 125. ISSN 0304-3932

Abstract

Before the 2008 crisis, the cross-sectional skewness of banks’ leverage went up and macro risk concentrated in the balance sheets of large banks. Using a model of profit-maximizing banks with heterogeneous Value-at-Risk constraints, we extract the distribution of banks’ risk-taking parameters from balance sheet data. The time series of these estimates allow us to understand systemic risk and its concentration in the banking sector over time. Counterfactual exercises show that (1) monetary policymakers confront the trade-off between stimulating the economy and financial stability, and (2) macroprudential policies can be effective tools to increase financial stability.