Informal credit intermediation and monetary policy in DSGE model

This study expanded the hitherto DSGE model with bank intermediation to include informal credit intermediation. The modeling strategy assumed that both formal and informal banks operate in a common credit market performing the same activities, thus existing parallel to each other. Formal banks participate in the wholesale credit market whiles informal banks do not. The purpose of this modeling approach is to investigate the effect of the parallel activities of these banks on monetary transmission mechanism. The study found that the presences of informal intermediation affect how interest rate react to monetary policy shocks. The effect however, depends on the relationship between formal and informal bank in the intermediation process. The study established that interest rates become very responsive to monetary policy if formal banks serves as lender of last resort to informal banks in the credit creation process. The contrast happens if informal banks are independent of formal banks in the credit creation process.