Financial Cycles, Credit Bubbles and Stabilization Policies

Luisa Corrado and Tobias Schuler

No 7422, CESifo Working Paper Series from CESifo

Abstract: This paper analyzes the effects of several policy instruments to mitigate financial bubbles generated in the banking sector. We augment a New Keynesian macroeconomic framework by endogenizing boundedly-rational expectations on asset values of loan portfolios and allow for interbank trading. We then show how a financial bubble can develop from a financial innovation. By incorporating a loan management technology and a bank equity channel we can evaluate the efficacy of several policy instruments in counteracting financial bubbles. We find that an endogenous capital requirement reduces the impact of a financial bubble significantly while central bank intervention (“leaning against the wind”) proves to be less effective. A welfare analysis ranks the policy reaction through an endogenous capital requirement as best.

Keywords: financial bubbles; credit-to-GDP gap; endogenous capital requirement; stabilization policies (search for similar items in EconPapers)
JEL-codes: E44 E52 (search for similar items in EconPapers)
Date: 2018
New Economics Papers: this item is included in nep-ban, nep-dge, nep-mac and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3)

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Related works:
Working Paper: Financial cycles, credit bubbles and stabilization policies (2019)
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Persistent link: https://EconPapers.repec.org/RePEc:ces:ceswps:_7422

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