Lending by Servicing: Monetary Policy Transmission through Shadow Banks

Abstract

We propose a new framework for monetary policy transmission through shadow banks in the mortgage market, highlighting their growing importance in mortgage servicing. Servicing provides a hedge against interest rate shocks as higher interest rates increase the value of mortgage servicing rights and cashflow from servicing. Thus, nonbanks with greater exposure to servicing have more funding and reduce lending by less. This channel is weaker for traditional banks due to their reliance on deposit funding and the capital charge on servicing. We show that the rising nonbank share in servicing has dampened the effect of monetary policy on aggregate lending.

Presented by Isha Agrawal