Deposit Regulation and Monetary Transmission in China

In well-developed financial markets, retail deposits and wholesale funding comove negatively in response to monetary policy changes. This negative comovement weakens the transmission of monetary policy. By contrast, our study finds that in emerging markets such as China, where deposit rate ceilings are regulated, (i) retail deposits and wholesale funding comove positively as the policy rate changes, and (ii) wholesale funding strengthens the transmission of monetary policy to bank lending. We develop a theoretical model that highlights the significant influence of deposit regulation on monetary policy transmission in the context of the world’s largest emerging market economy.