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Monetary policy and endogenous financial crises

Frederic Boissay, Fabrice Collard, Jordi Galí and Cristina Manea

No 991, BIS Working Papers from Bank for International Settlements

Abstract: What are the channels through which monetary policy affects financial stability? Can (and should) central banks prevent financial crises by deviating from price stability? To what extent may monetary policy itself unintendedly brew financial vulnerabilities? We answer these questions using a New Keynesian model with capital accumulation and endogenous financial crises due to adverse selection and moral hazard in credit markets. Our findings are threefold. First, monetary policy affects the probability of a crisis both in the short–run (via aggregate demand) and in the medium–run (via capital accumulation). Second, the central bank can reduce the incidence of crises in the medium–run by tolerating higher inflation volatility in the short–run. Third, prolonged periods of loose monetary policy followed by a sharp tightening can lead to financial crises.

Keywords: inflation targeting; low–for–long policy rate; adverse selection; financial crises (search for similar items in EconPapers)
JEL-codes: E1 E3 E6 G01 (search for similar items in EconPapers)
Date: 2022-01
New Economics Papers: this item is included in nep-cwa, nep-dge, nep-mac and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Related works:
Working Paper: Monetary Policy and Endogenous Financial Crises (2023) Downloads
Working Paper: Monetary Policy and Endogenous Financial Crises (2023) Downloads
Working Paper: Monetary Policy and Endogenous Financial Crises (2022) Downloads
Working Paper: Monetary Policy and Endogenous Financial Crises (2022) Downloads
Working Paper: Monetary Policy and Endogenous Financial Crises (2022) Downloads
Working Paper: Monetary policy and endogenous financial crises (2022) Downloads
Working Paper: Monetary Policy and Endogenous Financial Crises (2021) Downloads
Working Paper: Monetary Policy and Endogenous Financial Crises (2021) Downloads
Working Paper: Monetary policy and endogenous financial crises (2021) Downloads
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