Financial crises and macro-prudential policies

Benigno, Gianluca, Chen, Huigang, Otrok, Christopher, Rebucci, Alessandro and Young, Eric R. (2010) Financial crises and macro-prudential policies. CEP Discussion Papers (CEPDP1032). London School of Economics and Political Science. Centre for Economic Performance, London, UK.

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Abstract

Stochastic general equilibrium models of small open economies with occasionally binding financial frictions are capable of mimicking both the business cycles and the crisis events associated with the sudden stop in access to credit markets (Mendoza, 2010). In this paper we study the inefficiencies associated with borrowing decisions in a two-sector small open production economy. We find that this economy is much more likely to display 'under-borrowing' rather than 'over-borrowing' in normal times. As a result, macro-prudential policies (i.e. Tobin taxes or economy-wide controls on capital inflows) are costly in welfare terms in our economy. Moreover, we show that macro-prudential policies aimed at minimizing the probability of the crisis event might be welfare-reducing in production economies. Our analysis shows that there is a much larger scope for welfare gains from policy interventions during financial crises. That is to say that, within our modeling approach, ex post or crisis-management policies dominate ex ante or macro-prudential ones.

Item Type:	Monograph (Discussion Paper)
Official URL:	https://cep.lse.ac.uk/_new/publications/discussion...
Additional Information:	© 2010 The Author(s)
Divisions:	Economics
Subjects:	H Social Sciences > HC Economic History and Conditions
JEL classification:	E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E52 - Monetary Policy (Targets, Instruments, and Effects) F - International Economics > F3 - International Finance > F37 - International Finance Forecasting and Simulation F - International Economics > F4 - Macroeconomic Aspects of International Trade and Finance > F41 - Open Economy Macroeconomics
Date Deposited:	29 Feb 2024 15:21
Last Modified:	11 Dec 2024 19:52
URI:	http://eprints.lse.ac.uk/id/eprint/121705

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