A Trade-off Between Monetary Policy Transmission and Systemic Risk in China

We examine how interbank wholesale funding shapes the transmission of interest-rate-based monetary policy in China and contributes to systemic risk. Using a bank-level quarterly panel dataset and an estimated policy rule for the 7-day repo rate, we find that access to wholesale funding amplifies the transmission of monetary policy easing to lending by non-state banks, but also heightens their vulnerability to systemic risk during economic downturns. Since 2018, non-state banks with greater reliance on wholesale funding have experienced larger increases in expected capital shortfalls. To interpret these findings, we develop a structural model that incorporates a dual-track interest rate system and a segmented deposit market. The model quantifies the role of a liquidity reallocation channel from state to non-state banks and reveals a macroprudential trade-off: tighter regulation of wholesale funding weakens the effectiveness of monetary policy but mitigates systemic risk.