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A Reinterpretation of the Gordon and Barro Model in Terms of Financial Stability

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  • Beteto Wegner, Danilo Lopomo

Abstract

A government bailout model based on the framework of time-consistent mone- tary policy of Barro and Gordon (1983) is developed. In the model, the banking sector and the government play a game where the former chooses a bailout expec- tation whereas the later reacts by choosing its optimal bailout policy. The banking sector is assumed to be perfectly competitive, aiming only at anticipating the bailout policy. An excess of credit ensues and firms over-invest, which can be amended by an appropriately chosen reserve requirement. The government faces a trade-off be- tween efficiency and stability in trying to minimize the costs of intervention.

Suggested Citation

  • Beteto Wegner, Danilo Lopomo, 2014. "A Reinterpretation of the Gordon and Barro Model in Terms of Financial Stability," Risk and Sustainable Management Group Working Papers 182483, University of Queensland, School of Economics.
    • Handle: RePEc:ags:uqsers:182483
    DOI: 10.22004/ag.econ.182483
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    References listed on IDEAS

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    1. Douglas W. Diamond & Raghuram G. Rajan, 2012. "Illiquid Banks, Financial Stability, and Interest Rate Policy," Journal of Political Economy, University of Chicago Press, vol. 120(3), pages 552-591.
    2. Barro, Robert J. & Gordon, David B., 1983. "Rules, discretion and reputation in a model of monetary policy," Journal of Monetary Economics, Elsevier, vol. 12(1), pages 101-121.
    3. Todd Keister, 2016. "Bailouts and Financial Fragility," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 83(2), pages 704-736.
    4. Emmanuel Farhi & Jean Tirole, 2012. "Collective Moral Hazard, Maturity Mismatch, and Systemic Bailouts," American Economic Review, American Economic Association, vol. 102(1), pages 60-93, February.
    5. Xavier Freixas & Jean-Charles Rochet, 2008. "Microeconomics of Banking, 2nd Edition," MIT Press Books, The MIT Press, edition 2, volume 1, number 0262062704, December.
    6. Guido Lorenzoni, 2008. "Inefficient Credit Booms," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 75(3), pages 809-833.
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