Debt and Incomplete Financial Markets: A Case for Nominal GDP Targeting

Kevin Sheedy

No 9843, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: Financial markets are incomplete, thus for many households borrowing is possible only by accepting a financial contract that specifies a fixed repayment. However, the future income that will repay this debt is uncertain, so risk can be inefficiently distributed. This paper argues that a monetary policy of nominal GDP targeting can improve the functioning of incomplete financial markets when incomplete contracts are written in terms of money. By insulating households' nominal incomes from aggregate real shocks, this policy effectively completes financial markets by stabilizing the ratio of debt to income. The paper argues the objective of replicating complete financial markets should receive substantial weight even in an environment with other frictions that have been used to justify a policy of strict inflation targeting.

Keywords: Heterogeneous agents; Incomplete markets; Nominal gdp targeting; Risk sharing (search for similar items in EconPapers)
JEL-codes: E21 E31 E44 E52 (search for similar items in EconPapers)
Date: 2014-02
New Economics Papers: this item is included in nep-mac and nep-mon
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Citations: View citations in EconPapers (71)

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Related works:
Journal Article: Debt and Incomplete Financial Markets: A Case for Nominal GDP Targeting (2014)
Working Paper: Debt and incomplete financial markets: a case for nominal GDP targeting (2014)
Working Paper: Debt and Incomplete Financial Markets: A Case for Nominal GDP Targeting (2013)
Working Paper: Debt and incomplete financial markets: a case for nominal GDP targeting (2013)
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