Monetary Policy and Endogenous Financial Crises

Cristina Manea, Frederic Boissay, Fabrice Collard and Jordi Galí

No 1308, Working Papers from Barcelona School of Economics

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: adverse selection; financial crisis; inflation targeting; low–for–long policy rate (search for similar items in EconPapers)
JEL-codes: E1 E3 E6 G01 (search for similar items in EconPapers)
Date: 2021-12
New Economics Papers: this item is included in nep-dge and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (14)

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Related works:
Working Paper: Monetary policy and endogenous financial crises (2025)
Working Paper: Monetary Policy and Endogenous Financial Crises (2023)
Working Paper: Monetary Policy and Endogenous Financial Crises (2023)
Working Paper: Monetary policy and endogenous financial crises (2022)
Working Paper: Monetary Policy and Endogenous Financial Crises (2022)
Working Paper: Monetary Policy and Endogenous Financial Crises (2022)
Working Paper: Monetary Policy and Endogenous Financial Crises (2022)
Working Paper: Monetary policy and endogenous financial crises (2022)
Working Paper: Monetary Policy and Endogenous Financial Crises (2021)
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Persistent link: https://EconPapers.repec.org/RePEc:bge:wpaper:1308

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