Macroeconomics of bank interest spreads: evidence from Brazil

Bank interest spreads in Brazil are up to ten times larger than international benchmarks. This paper shows that such high spreads can be largely accounted for by a policy that requires banks to invest about half of their deposits in mandatory reserves and selected loans. Using a general equilibrium model, augmented with a banking sector and tailored to the Brazilian economy, the paper also shows that the policy has significant positive and normative implications. It accounts for about half of the spread in the model and a third of the actual spread, and generates welfare costs of almost 2% of current consumption.