Bank earning asset behavior and causality between reserves and money: Lagged versus contemporaneous reserve accounting

This paper empirically examines the impact of lagged reserve accounting on large individual bank behavior. Its specific objective is to assess the claim that the institution of LRA has led to a decoupling of the earning asset and reserve adjustment decisions of banks. To accomplish this objective, a system of equations which jointly describe the reserve adjustment and earning asset decisions of banks is estimated and tested for differences in the model between the periods before and after 1968. It is found that bank behavior does not differ fundamentally under LRA. Evidence that banks make their earning asset adjustments promptly and that expected future interest rates are important in their decisions is also presented.