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The Risk Channel of Monetary Policy
This paper examines how monetary policy affects the riskiness of the financial sector's aggregate balance sheet, a mechanism referred to as the risk channel of monetary policy. I study the risk channel in a DSGE model with nominal frictions and a banking sector that can issue both outside equity and debt, making banks' exposure to risk an endogenous choice, and dependent on the (monetary) policy environment. Banks' equilibrium portfolio choice is determined by solving the model around a risk-adjusted steady state. I find that banks reduce their reliance on debt finance and decrease leverage ...