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Financial Development and Amplification

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  • Hirano, Tomohiro

Abstract

This paper investigates theoretically how financial development affects the magnitude of financial amplification. Financial development yields two competing effects, balance sheet effects and shock cushioning effects. Depending on which of these forces dominates, we find that financial amplification initially increases with financial development and later falls down. Moreover, we examine the role of monetary policy to reduce financial amplification. We find that in the case of unexpected productivity shocks, money growth targeting dampens financial amplification by producing shock cushioning effects. On the other hand, inflation targeting exacerbates the shocks because under the policy, shock cushioning effects are not generated.

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Bibliographic Info

Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 16907.

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Date of creation: 23 Aug 2009
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Handle: RePEc:pra:mprapa:16907

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Keywords: Financial development; Financial amplification; Balance sheet effects; Shock cushioning effects;

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