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on Dynamic General Equilibrium |
| By: | Christiano, Lawrence J. (Northwestern University); Trabrandt, Mathias (European Central Bank); Walentin, Karl (Research Department, Central Bank of Sweden) |
| Abstract: | We propose a monetary model in which the unemployed satisfy the official US definition of unemployment: they are people without jobs who are (i) currently making concrete efforts to find work and (ii) willing and able to work. In addition, our model has the property that people searching for jobs are better off if they find a job than if they do not (i.e., unemployment is ‘involuntary’). We integrate our model of invol- untary unemployment into the simple New Keynesian framework with no capital and use the resulting model to discuss the concept of the ‘non-accelerating inflation rate of unemployment’. We then integrate the model into a medium sized DSGE model with capital and show that the resulting model does as well as existing models at accounting for the response of standard macroeconomic variables to monetary policy shocks and two technology shocks. In addition, the model does well at accounting for the response of the labor force and unemployment rate to the three shocks. |
| Keywords: | DSGE; unemployment; business cycles; monetary policy; Bayesian estima- tion. |
| JEL: | E20 E30 E50 J20 J60 |
| Date: | 2010–04–01 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:rbnkwp:0238&r=dge |
| By: | Janos Varga; Jan in 't Veld |
| Abstract: | More than a third of the EU budget is devoted to Cohesion Policy with the objective to foster economic and social cohesion in the European Union. Large-scale fiscal transfers are used to support investment in infrastructure, R&D and human capital. This paper provides a model-based assessment of the potential macro-economic impact of these fiscal transfers using a DSGE model with semi-endogenous growth (Jones, 1995) and endogenous human capital accumulation. The simulations show the potential benefits of Structural Funds with significant output gains in the long run due to sizeable productivity improvements. |
| Keywords: | A Model-based Analysis of the Impact of Cohesion Policy Expenditure 2000-06, Cohesion Policy, endogenous growth, dynamic general equilibrium modelling, Varga, in 't Veld, |
| JEL: | C53 E62 O30 O41 |
| Date: | 2009–10 |
| URL: | http://d.repec.org/n?u=RePEc:euf:ecopap:0387&r=dge |
| By: | Makoto Nakajima |
| Abstract: | This paper quantitatively investigates the optimal capital income taxation in the general equilibrium overlapping generations model, which incorporates characteristics of housing and the U.S. preferential tax treatment for owner-occupied housing. Housing tax policy is found to have a substantial effect on how capital income should be taxed. Given the U.S. preferential tax treatment for owner-occupied housing, the optimal capital income tax rate is close to zero, contrary to the high optimal capital income tax rate implied by models without housing. A lower capital income tax rate implies a narrowed tax wedge between housing and non-housing capital, which indirectly nullifies the subsidies (taxes) for homeowners (renters) and corrects the over-investment to housing. |
| Keywords: | Taxation ; Housing |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedpwp:10-11&r=dge |
| By: | Castelnuovo , Efrem (Università di Padova and Bank of Finland Research); Nisticò, Salvatore (Università di Roma ‘Tor Vergata’ and LUISS ‘Guido Carli’) |
| Abstract: | This paper investigates the relationship between stock market fluctuations and monetary policy in a DSGE model for the US economy. We initially adopt a framework in which fluctuations in households’ financial wealth are allowed – but not required – to influence current consumption. This is due to interaction in the financial markets between long-time traders holding wealth accumulated over time and zero-wealth newcomers. Importantly, we introduce nominal wage stickiness to induce pro-cyclicality in real dividends. Additional nominal and real frictions are modeled to capture the pervasive macroeconomic persistence of the observables used to estimate our model. We fit our model to US post-WWII data and report three main results. First, the data strongly support a significant impact of stock prices on real activity and business cycles. Second, our estimates also identify a significant and counteractive Fed response to stock-price fluctuations. Third, we derive from our model a microfounded measure of financial slack – the stock-price gap – which we then compare with alternative measures, currently used in empirical studies, to assess the properties of the latter for capturing the dynamic and cyclical implications of our DSGE model. The behavior of our stock-price gap is consistent with the episodes of stock-market booms and busts in the post-WWII period, as reported by independent analyses, and closely correlates with the current financial meltdown. Typically, the proxies used for financial slack, such as detrended log-indexes or growth rates, show limited capabilities of capturing the implications of our model-consistent index of financial stress. Cyclical properties of the model as well as counterfactuals regarding shocks to our measure of financial slackness and monetary policy shocks are also proposed. |
| Keywords: | stock prices; monetary policy; Bayesian estimation; wealth effects |
| JEL: | E12 E44 E52 |
| Date: | 2010–04–28 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:bofrdp:2010_011&r=dge |
| By: | Jesus Fernández-Villaverde; Pablo Guerrón-Quintana; Juan F. Rubio-Ramírez |
| Abstract: | This paper compares the role of stochastic volatility versus changes in monetary policy rules in accounting for the time-varying volatility of U.S. aggregate data. Of special interest to the authors is understanding the sources of the great moderation of business cycle fluctuations that the U.S. economy experienced between 1984 and 2007. To explore this issue, the authors build a medium-scale dynamic stochastic general equilibrium (DSGE) model with both stochastic volatility and parameter drifting in the Taylor rule and they estimate it non-linearly using U.S. data and Bayesian methods. Methodologically, the authors show how to confront such a rich model with the data by exploiting the structure of the high-order approximation to the decision rules that characterize the equilibrium of the economy. Their main empirical findings are: 1) even after controlling for stochastic volatility (and there is a fair amount of it), there is overwhelming evidence of changes in monetary policy during the analyzed period; 2) however, these changes in monetary policy mattered little for the great moderation; 3) most of the great performance of the U.S. economy during the 1990s was a result of good shocks; and 4) the response of monetary policy to inflation under Burns, Miller, and Greenspan was similar, while it was much higher under Volcker. |
| Keywords: | Monetary policy ; Business cycles ; Board of Governors of the Federal Reserve System (U.S.) ; Econometric models |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedpwp:10-14&r=dge |
| By: | Jesus Fernández-Villaverde; Pablo Guerrón-Quintana; Juan F. Rubio-Ramírez. |
| Abstract: | The authors report the results of the estimation of a rich dynamic stochastic general equilibrium model of the U.S. economy with both stochastic volatility and parameter drifting in the Taylor rule. They use the results of this estimation to examine the recent monetary history of the U.S. and to interpret, through this lens, the sources of the rise and fall of the great American inflation from the late 1960s to the early 1980s and of the great moderation of business cycle fluctuations between 1984 and 2007. |
| Keywords: | Economic conditions - United States ; Business cycles - Econometric models ; Econometric models ; Monetary policy - United States |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedpwp:10-15&r=dge |
| By: | Michael T. Kiley |
| Abstract: | What is the output gap? There are many definitions in the economics literature, all of which have a long history. I discuss three alternatives: the deviation of output from its long-run stochastic trend (i.e., the "Beveridge-Nelson cycle"); the deviation of output from the level consistent with current technologies and normal utilization of capital and labor input (i.e., the "production-function approach"); and the deviation of output from "flexible-price" output (i.e., its "natural rate"). Estimates of each concept are presented from a dynamic-stochastic-general-equilibrium (DSGE) model of the U.S. economy used at the Federal Reserve Board. Four points are emphasized: The DSGE model's estimate of the Beveridge-Nelson gap is very similar to gaps from policy institutions, but the DSGE model's estimate of potential growth has a higher variance and substantially different covariance with GDP growth; the natural rate concept depends strongly on model assumptions and is not designed to guide nominal interest rate movements in "Taylor" rules in the same way as the other measures; the natural rate and production function trends converge to the Beveridge-Nelson trend; and the DSGE model's estimate of the Beveridge-Nelson gap is as closely related to unemployment fluctuations as those from policy institutions and has more predictive ability for inflation. |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgfe:2010-27&r=dge |
| By: | Anders Frederiksen (Aarhus University); Odile Poulsen (School of Economics, University of East Anglia) |
| Abstract: | In recent decades most developed countries have experienced an increase in income inequality. In this paper, we use an equilibrium search framework to shed additional light on what is causing income distribution to change. The major benefit of the model is that it is can accommodate shocks to the skill composition in the market, employee bargaining power and productivity. Further, when our model is subjected to skill-upgrading and changes in employee bargaining power, it is capable of predicting the recent changes observed in the Danish income distribution. The model emphasizes that shocks to the employees' relative productivity, i.e., skill-biased technological change, are unlikely to have caused the increase in income inequality. |
| Keywords: | Income inequality, two-sector search model, bargaining power, skill-biased technological change |
| JEL: | J3 J6 M5 |
| Date: | 2010–04–21 |
| URL: | http://d.repec.org/n?u=RePEc:uea:aepppr:2010_06&r=dge |
| By: | Jean Boivin; Michael T. Kiley; Frederic S. Mishkin |
| Abstract: | We discuss the evolution in macroeconomic thought on the monetary policy transmission mechanism and present related empirical evidence. The core channels of policy transmission - the neoclassical links between short-term policy interest rates, other asset prices such as long-term interest rates, equity prices, and the exchange rate, and the consequent effects on household and business demand - have remained steady from early policy-oriented models (like the Penn-MIT-SSRC MPS model) to modern dynamic-stochastic-general-equilibrium (DSGE) models. In contrast, non-neoclassical channels, such as credit-based channels, have remained outside the core models. In conjunction with this evolution in theory and modeling, there have been notable changes in policy behavior (with policy more focused on price stability) and in the reduced form correlations of policy interest rates with activity in the United States. Regulatory effects on credit provision have also changed significantly. As a result, we review the empirical evidence on the changes in the effect of monetary policy actions on real activity and inflation and present new evidence, using both a relatively unrestricted factor-augmented vector autoregression (FAVAR) and a DSGE model. Both approaches yield similar results: Monetary policy innovations have a more muted effect on real activity and inflation in recent decades as compared to the effects before 1980. Our analysis suggests that these shifts are accounted for by changes in policy behavior and the effect of these changes on expectations, leaving little role for changes in underlying private-sector behavior (outside shifts related to monetary policy changes). |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgfe:2010-26&r=dge |
| By: | Raouf BOUCEKKINE (UNIVERSITE CATHOLIQUE DE LOUVAIN, Department of Economics and Core, Univerity of Glasgow, Department of Economics); Carmen CAMACHO (UNIVERSITE CATHOLIQUE DE LOUVAIN, Institut de Recherches Economiques et Sociales (IRES) and FNRS); Giorgio FABBRI (Dipartimento di Studi Economici S.Vinci, Universita di Napoli Parthenope,Naples and UNIVERSITE CATHOLIQUE DE LOUVAIN, Institut de Recherches Economiques et Sociales (IRES)) |
| Abstract: | We study the optimal dynamics of an AK economy where population is uniformly distributed along the unit circle. Locations only differ in initial capital endowments. Despite constant returns to capital, we prove that transition dynamics will set in. In particular, we prove that the spatio-temporal dynamics, induced by the willingness of the planner to give the same (detrended) consumption over space and time, lead to convergence in the level of capital across locations in the long-run. |
| Keywords: | Economic Growth, Inequality, Spatial Dynamics, Convergence |
| JEL: | C60 O11 R11 R12 R13 |
| Date: | 2010–03–16 |
| URL: | http://d.repec.org/n?u=RePEc:ctl:louvir:2010009&r=dge |
| By: | Walentin, Karl (Research Department, Central Bank of Sweden); Sellin, Peter (Monetary Policy Department, Central Bank of Sweden) |
| Abstract: | In this paper our main aim is to quantify the role that housing collateral plays for the monetary transmission mechanism. Furthermore, we want to explore the implications of the increase in household indebtedness, and specifically the loan-to-value ratio, in the last two decades. We set up a two sector DSGE model with production of goods and housing. Households can only borrow by using their houses as collateral. The structure of the model closely follows Iacoviello and Neri (2010). To be able to do quantitatively relevant exercises we estimate the model using Bayesian methods on Swedish data for 1986q1-2008q3. We quantify the reinforcement of the monetary transmission mechanism that housing used as collateral implies in the presence of nominal loan contracts. This mechanism functions through the effects of the interest rate on house prices as well as on inflation and thereby the real value of nominal debt. This component of the monetary transmission mechanism becomes stronger the higher the loan-to-value ratio is. A change in the maximum loan-to-value ratio from 85% to 95%, all else being equal, implies that the effect of a monetary policy shock is increased by 4% for inflation, 8% for GDP and 24% for consumption. We conclude that to properly understand the monetary transmission mechanism and its changing nature over time, we need to take into account the effects of housing related collateral constraints. |
| Keywords: | House prices; residential investment; monetary policy; monetary transmis- sion mechanism; collateral constraints; Bayesian estimation |
| JEL: | E21 E32 E44 E52 R21 R31 |
| Date: | 2010–04–01 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:rbnkwp:0239&r=dge |
| By: | Raouf BOUCEKKINE (UNIVERSITE CATHOLIQUE DE LOUVAIN, Department of Economics and Core, Univerity of Glasgow, Department of Economics); Benteng ZOU (University of Luxembourg, CREA) |
| Abstract: | This paper extends the standard neoclassical model by considering a technology sector through which an economy with limited human capital attempts to catch up with a given ÒlocomotiveÓ pushing exogenously technical progress. In periods of technological stagnation, economies close enough to the frontier may find it optimal to not catch up, which reinforces worldwide technological sclerosis. Under sustainable technological growth, all the other economies will sooner or later engage in imitation. Such a phase of technology adoption may be delayed depending on certain deep characteristics of the followers. |
| Date: | 2010–03–04 |
| URL: | http://d.repec.org/n?u=RePEc:ctl:louvir:2010011&r=dge |
| By: | L.Deidda; B.Fattouh |
| Abstract: | This paper develops an overlapping generation model with asymmetric information in the credit market such that the interplay between relationship finance supplied by investors who monitor investment decisions ex-ante and market finance supplied by investors who relay on public information can be the source of endogenous business fluctuations. Monitoring helps reducing the inefficiency caused by moral hazard. However, the incentives of entrepreneurs to demand relationship finance to induce monitoring –which is also non-contractible – are weaker the lower is the return to investment. If the return to investment is low enough, entrepreneurs demand too little relationship finance. This leads to an inefficiently low level of monitoring and of entrepreneurial effort. Under decreasing marginal returns to capital, the model generates a reversion mechanism that can induce macroeconomic instability. The economy can experience endogenous business cycles characterized by a pro-cyclical behavior of the relative importance of relationship finance. This is consistent with the pro-cyclical behavior of the indicator of relative importance of relationship finance, which we construct based on quarterly and annual data from the US Flow of Funds Accounts for the non-financial corporate business sector. |
| Keywords: | Moral hazard; Endogenous business cycles; relationship finance; market finance; Monitoring |
| JEL: | D82 E32 E44 |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:cns:cnscwp:201008&r=dge |
| By: | Guangling 'Dave' Liu |
| Abstract: | This paper attempts to answer question similar to that asked by Ireland (2003): What explains the correlations between nominal and real variables in postwar US data? More precisely, this paper aims to investigate whether endogenous money, sticky wages, or some combination of the two, are necessary features in a dynamic New Keynesian model in explaining the correlations between nominal and real variables in postwar US data. To do so, we estimate a medium-scale dynamic stochastic general equilibrium model of endogenous money. The model is estimated using Bayesian maximum likelihood and compared with a restricted version of the structural model, in which wages are flexible. We conclude that both endogenous money and sticky wages are necessary features in a dynamic New Keynesian model in explaining the variation in key macroeconomic variables, both nominal and real. |
| Keywords: | Endogenous money, Sticky wages, New Keynesian model, Bayesian analysis |
| JEL: | E31 E32 E52 |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:rza:wpaper:175&r=dge |
| By: | Lena Calahorrano (RWTH Aachen University) |
| Abstract: | This paper analyzes how population aging affects immigration policy in rich industrialized countries. It sets up a two-period model of a representative democracy with two overlapping generations. The government’s preferred immigration rate increases with the share of retirees in the population. The paper differentiates between an economy without a pension system and one with pay-as-you-go pensions. As immigrants have more children than natives, the chosen immigration rate is contingent on the design of the pension system. If pension contributions and benefits are set freely by the government, equilibrium immigration is lower than it is in the absence of a pension system. On the contrary, it is higher if the pension level is fixed ex ante to a relatively generous level, since native workers then benefit from sharing the burden of pension contributions with the immigrants. |
| Keywords: | Demographic Change, Political Economy, Immigration Policy |
| JEL: | J1 D78 F22 |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:mar:magkse:201018&r=dge |
| By: | Luca Benati (European Central Bank, Monetary Policy Strategy Division, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.) |
| Abstract: | Based on standard New Keynesian models I show that policy counterfactuals based on the theoretical structural VAR representations of the models fail to reliably capture the impact of changes in the parameters of the Taylor rule on the (reduced-form) properties of the economy. Based on estimated models for the Great Inflation and the most recent period, I show that, as a practical matter, the problem appears to be non-negligible. These results imply that the outcomes of SVAR-based policy counterfactuals should be regarded with caution, as their informativeness for the specific issue at hand–e.g., understanding the role played by monetary policy in exacerbating the Great Depression, causing the Great Inflation, or fostering the Great Moderation–is, in principle, open to question. Finally, I argue that SVAR-based policy counterfactuals suffer from a cruciallogical shortcoming: given that their reliability crucially depends on unknown structural characteristics of the underlying data generation process, such reliability cannot simply be assumed, and can instead only be ascertained with a reasonable degree of confidence by estimating structural (DSGE) models. JEL Classification: E30, E32. |
| Keywords: | Lucas critique, structural VARs, policy counterfactuals, DSGE models, Taylor rules, monetary policy, Great Depression, Great Inflation, Great Moderation. |
| Date: | 2010–05 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20101188&r=dge |
| By: | James Albrecht (Georgetown University); Pieter A. Gautier (VU University Amsterdam); Susan Vroman (Georgetown University) |
| Abstract: | In this paper, we present a directed search model of the housing market. The pricing mechanism we analyze reflects the way houses are bought and sold in the United States. Our model is consistent with the observation that houses are sometimes sold above, sometimes below and sometimes at the asking price. We consider two versions of our model. In the first version, all sellers have the same reservation value. In the second version, there are two seller types, and type is private information. For both versions, we characterize the equilibrium of the game played by buyers and sellers, and we prove efficiency. Our model offers a new way to look at the housing market from a search-theoretic perspective. In addition, we contribute to the directed search literature by considering a model in which the asking price (i) entails only limited commitment and (ii) has the potential to signal seller type. |
| Keywords: | Directed Search; Housing |
| JEL: | D83 R31 |
| Date: | 2010–01–04 |
| URL: | http://d.repec.org/n?u=RePEc:dgr:uvatin:20100005&r=dge |
| By: | Totzek, Alexander; Winkler, Roland |
| Abstract: | This paper explores different fiscal stimuli within a business cycle model with an endogenous number of firms. We demonstrate that a changing number of firms is a crucial dimension for evaluating fiscal policy since it accelerates the impacts of fiscal policy. In the presence of demand stimuli fiscal multipliers are small and the number of firms may decline, in particular under distortionary tax financing. Policies that disburden private agents from income taxes, on the other hand, are effective in boosting economic activity and new firm creation. -- |
| Keywords: | Fiscal Multipliers,Firm Entry,Product Variety |
| JEL: | E62 E32 E22 |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:cauewp:201005&r=dge |
| By: | Michal Kowalik; David Martinez-Miera |
| Abstract: | This paper analyzes the role of expected income in entrepreneurial borrowing. We claim that poorer individuals are safer borrowers because they place more value on the relationship with the bank. We study the dynamics of a monopolistic bank granting loans and taking deposits from overlapping generations of entrepreneurs with different levels of expected income. Matching the evidence of the Grameen Bank we show that a bank will focus on individuals with lower expected income, and will not disburse dividends until it reaches all the potential borrowers. We find empirical support for our theoretical results using data from a household survey from Bangladesh. We show that various measures of expected income are positively and signficantly correlated with default probabilities. |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedkrw:rwp10-11&r=dge |
| By: | Kai Christoffel (Directorate General Research, European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Günter Coenen (Directorate General Research, European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Anders Warne (Directorate General Research, European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.) |
| Abstract: | In this paper we review the methodology of forecasting with log-linearised DSGE models using Bayesian methods. We focus on the estimation of their predictive distributions, with special attention being paid to the mean and the covariance matrix of h-step ahead forecasts. In the empirical analysis, we examine the forecasting performance of the New Area-Wide Model (NAWM) that has been designed for use in the macroeconomic projections at the European Central Bank. The forecast sample covers the period following the introduction of the euro and the out-of-sample performance of the NAWM is compared to nonstructural benchmarks, such as Bayesian vector autoregressions (BVARs). Overall, the empirical evidence indicates that the NAWM compares quite well with the reduced-form models and the results are therefore in line with previous studies. Yet there is scope for improving the NAWM’s forecasting performance. For example, the model is not able to explain the moderation in wage growth over the forecast evaluation period and, therefore, it tends to overestimate nominal wages. As a consequence, both the multivariate point and density forecasts using the log determinant and the log predictive score, respectively, suggest that a large BVAR can outperform the NAWM. JEL Classification: C11, C32, E32, E37. |
| Keywords: | Bayesian inference, DSGE models, euro area, forecasting, open-economy macroeconomics, vector autoregression. |
| Date: | 2010–05 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20101185&r=dge |
| By: | Drozd, Lukasz A.; Nosal, Jaromir B. |
| Abstract: | This paper evaluates the performance of leading micro-founded pricing-to-market frictions vis-a-vis a set of robust stylized facts about international prices. In order to make that evaluation meaningful, we embed each friction into a unified IRBC framework and parameterize the models in a uniform way. Our goal is to evaluate the broad-based applicability of these frictions for policy-oriented DSGE modeling by documenting their strengths and weaknesses. We make three points: (i) the mechanisms generating pricing to market are not always neutral to business cycle dynamics of quantities, (ii) some mechanisms require producer markups at least 50% to account for the full range of estimates of the empirical exchange rate pass-through to export prices of 35%-50%, (iii) some frictions crucially depend on a particular driver of uncertainty in the underlying model. |
| Keywords: | pricing to market; law of one price; incomplete pass-through; international correlations; international business cycle; sticky prices; pass-through coefficient |
| JEL: | E32 F41 F31 |
| Date: | 2010–03–17 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:22513&r=dge |
| By: | Carrillo Julio A. (METEOR) |
| Abstract: | This paper compares two approaches that aim to explain the lagged and persistent behaviorof inflation and output after a variation in the interest rate. Two variants that produce inertiaare added to a baseline DSGE model of sticky prices: 1) a lagged inflation indexation rulealong with habit formation; and 2) sticky information applied to firms, workers, and households. The rival models are then confronted to a monetary SVAR using U.S. data in order to estimate the rates of inflation indexation, habit formation, price rigidities, information stickiness, and the monetary policy rule parameters. It is shown that the sticky information model has a modest advantage at fitting inflation than the lagged inflation index. model with habits. For output, the opposite is true. These differences are consistent throughout the robustness analysis, but they are not big enough to imply a significant statistical difference in terms of the goodness of fit of each model. In addition, the results suggest that sticky information may replace entirely sticky prices as a explanation of price setting behavior, but the latter might not apply to wages. Finally, the analysis find that information stickiness should be pervasive (i.e., applied to households, firms, and workers) in order to replicate the responses of aggregate variables to a shock in monetary policy. |
| Keywords: | monetary economics ; |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:dgr:umamet:2010018&r=dge |
| By: | Huberto M. Ennis; John A. Weinberg |
| Abstract: | It is often the case that banks in the US are willing to borrow in the fed funds market (the interbank market for funds) at higher rates than the ones they could obtain by borrowing at the Fed's discount window. This phenomenon is commonly explained as the consequence of the existence of a stigma effect attached to borrowing from the window. Most policymakers and empirical researchers consider the stigma hypothesis plausible. Yet, no formal treatment of the issue has ever been provided in the literature. In this paper, we fill that gap by studying a model of interbank credit where: (1) banks benefit from engaging in intertemporal trade with other banks and with outside investors; and (2) physical and informational frictions limit those trade opportunities. In our model, banks obtain loans in an over-the-counter market (involving search, bilateral matching, and negotiations over the terms of the loan) and hold assets of heterogeneous qualities which in turn determine their ability to repay those loans. When asset quality is not observable by outside investors, information about the actions taken by a bank in the credit market may influence the price at which it can sell its assets. In particular, under some conditions, discount window borrowing may be regarded as a negative signal about the quality of the borrower's assets. In such cases, some of the banks in our model, just as in the data, are willing to accept loans in the interbank market at higher rates than the ones they could obtain at the discount window. |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedrwp:10-07&r=dge |