Recapitalization in an Economy with State-Owned Banks - A DSGE Framework

Saurabh Ghosh, Pawan Gopalakrishnan and Sakshi Satija

MPRA Paper from University Library of Munich, Germany

Abstract: We simulate a DSGE model with state owned banks to analyze the impact of bank recapitalization as a policy action in response to loan defaults by firms. As a special case, we calibrate the model to India, an emerging economy with state-owned banks facing a minimum investment requirement in safe assets and a sectoral lending requirement. We analyze two different scenarios of government infused recapitalization - an unconditional transfer to banks and an "equity in exchange for transfer". Our analysis shows that a government infused recapitalization in response to a negative TFP shock may increase output in the short run. However, there is a welfare loss in both cases, although higher for the unconditional transfers as compared with the "equity in exchange for transfer". Our analysis suggests that while bank recapitalization is a welcome move to kick-start credit creation, capital formation and growth, especially during a cyclical downturn, there is need for appropriate policy vigil to protect the quality of public expenditure in the social sector that matters for welfare in the long run.

Keywords: Bank recapitalization; SLR requirements; Emerging Market Economies; Financial Frictions; state owned banks (search for similar items in EconPapers)
JEL-codes: E32 E62 (search for similar items in EconPapers)
Date: 2019-11-14
New Economics Papers: this item is included in nep-ban, nep-dge, nep-fdg and nep-mac
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Citations: View citations in EconPapers (1)

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