Discussion paper

DP18228 The Monetary Policy Haircut Rule

We embed a banking model, depicting the duality of private money creation and credit extension, into a two-sector neoclassical model with financial frictions. Banks rely on central-bank reserve loans that are collateralized according to the central bank's collateral framework. We derive optimal static and dynamic haircut rules, which balance the efficient allocation of capital across sectors and bank-default costs. We offer a simple formula for haircuts that relies on four fundamental factors: liquidity demand, output elasticity of capital, production capacities in the bond-financed and loan-financed sectors, and capital-ownership shares. We calibrate the model to the US and find ranges for haircuts between 5% to 20% when we consider numerical scenarios for capital-ownership shares, bank leverage, and productivity risk. Varying haircuts have also distributional effects: bondholders and workers may suffer from tight collateral requirements (large haircuts), while bankers benefit despite reduced


Althanns, M and H Gersbach (2023), ‘DP18228 The Monetary Policy Haircut Rule‘, CEPR Discussion Paper No. 18228. CEPR Press, Paris & London. https://cepr.org/publications/dp18228