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Financial (in)stability, supervision and liquidity injections : a dynamic general equilibrium approach

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Author Info
Gregory de Walque () (National Bank of Belgium, Research Department, University of Namur)
Olivier Pierrard () (Central Bank of Luxembourg, Catholic University of Louvain)
Abdelaziz Rouabah () (Central Bank of Luxembourg)

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Abstract

This paper develops a dynamic stochastic general equilibrium model with interactions between an heterogeneous banking sector and other private agents. We introduce endogenous default probabilities for both firms and banks, and allow for bank regulation and liquidity injection into the interbankmarket. Our aim is to understand the importance of supervisory and monetary authorities to restore financial stability. The model is calibrated against real data and used for simulations. We show that liquidity injections reduce financial instability but have ambiguous effects on output fluctuations. The model also confirms the partial equilibrium literature results on the procyclicality of Basel II.

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Paper provided by National Bank of Belgium in its series Research series with number 200810-23.

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Length: 37 pages
Date of creation: Oct 2008
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Handle: RePEc:nbb:reswpp:200810-23

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Related research
Keywords: DSGE; Banking sector; Default risk; Supervision; Money;

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Find related papers by JEL classification:
E13 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Neoclassical
E20 - Macroeconomics and Monetary Economics - - Macroeconomics: Consumption, Saving, Production, Employment, and Investment - - - General (includes Measurement and Data)
G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Mortgages
G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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