The Financial Accelerator and the Optimal Lending Contract
AbstractIn the financial accelerator literature pioneered by Bernanke, Gertler and Gilchrist (1999) entrepreneurs are myopic and lenders suboptimally choose a safe rate of return on their loans. We derive the optimal lending contract for forward looking entrepreneurs and provide three main results. First, under the optimal contract we find that financial frictions do not amplify business cycle fluctuations. Second, we show that shocks to the variance of unobserved idiosyncratic productivity --- so-called ``risk shocks'' --- have little effect on the real economy under the optimal contract. Third, we find that amplification under the suboptimal contract depends on loose monetary policy: when interest rate setting follows a standard Taylor rule, the financial accelerator is significantly dampened or even reversed.
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Date of creation: 14 Nov 2013
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Find related papers by JEL classification:
- E3 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles
This paper has been announced in the following NEP Reports:
- NEP-ALL-2013-11-22 (All new papers)
- NEP-DGE-2013-11-22 (Dynamic General Equilibrium)
- NEP-MAC-2013-11-22 (Macroeconomics)
- NEP-MON-2013-11-22 (Monetary Economics)
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