The Central Bank of Latvia published a working paper examining the economic effects of reducing the speed at which commercial bank deposit rates adjust to monetary policy changes, using a New-Keynesian dynamic stochastic general equilibrium model. The paper finds that slower adjustment of deposit interest rates increases overall macroeconomic volatility while typically reducing credit-spread volatility, except when the adjustment speed is very low. Compared with a setting where deposit rates perfectly track the policy rate, bank net interest income and aggregate consumption generally rise, while aggregate output and investment dynamics deteriorate. The analysis also considers a tax on interest income earned by setting deposit rates below the monetary policy rate, concluding that it amplifies short- and medium-run macroeconomic costs but improves long-run economic dynamics.
Central Bank of Latvia 2025-08-18
Central Bank of Latvia working paper finds slower deposit rate adjustment raises macro volatility and boosts bank net interest income
The Central Bank of Latvia released a working paper analyzing the economic impact of slower adjustments in commercial bank deposit rates to monetary policy changes using a New-Keynesian model. The study finds that slower rate adjustments increase macroeconomic volatility and affect bank net interest income, consumption, output, and investment dynamics. A tax on interest income from deposit rates below the policy rate amplifies short- and medium-term costs but enhances long-term economic dynamics.