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A Macroeconomic Model with a Financial Sector

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  • Markus K. Brunnermeier
  • Yuliy Sannikov
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    Abstract

    This article studies the full equilibrium dynamics of an economy with financial frictions. Due to highly nonlinear amplification effects, the economy is prone to instability and occasionally enters volatile crisis episodes. Endogenous risk, driven by asset illiquidity, persists in crisis even for very low levels of exogenous risk. This phenomenon, which we call the volatility paradox, resolves the Kocherlakota (2000) critique. Endogenous leverage determines the distance to crisis. Securitization and derivatives contracts that improve risk sharing may lead to higher leverage and more frequent crises.

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    Bibliographic Info

    Article provided by American Economic Association in its journal American Economic Review.

    Volume (Year): 104 (2014)
    Issue (Month): 2 (February)
    Pages: 379-421

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    Handle: RePEc:aea:aecrev:v:104:y:2014:i:2:p:379-421

    Note: DOI: 10.1257/aer.104.2.379
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    Blog mentions

    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. YELLEN: Monetary Policy Shouldn't Change Because People Are Worried About Financial Stability
      by Rob Wile in Business Insider on 2014-07-02 15:00:00
    2. Chair Janet L. Yellen: Monetary Policy and Financial Stability
      by Guest Author in The Big Picture on 2014-07-03 09:00:18
    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
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    Cited by:
    1. Fabian Valencia, 2011. "Monetary Policy, Bank Leverage, and Financial Stability," IMF Working Papers 11/244, International Monetary Fund.
    2. Bent Jesper Christensen & Olaf Posch & Michel van der Wel, 2014. "Estimating Dynamic Equilibrium Models Using Mixed Frequency Macro and Financial Data," CESifo Working Paper Series 5030, CESifo Group Munich.
    3. Marco Bassetto & Marco Cagetti & Mariacristina De Nardi, 2015. "Credit Crunches and Credit Allocation in a Model of Entrepreneurship," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 18(1), January.
    4. Plosser, Matthew, 2014. "Bank heterogeneity and capital allocation: evidence from "fracking" shocks," Staff Reports 693, Federal Reserve Bank of New York.
    5. Thorsten Beck & Andrea Colciago & Damjan Pfajfar, 2014. "The role of financial intermediaries in monetary policy transmission," DNB Working Papers 420, Netherlands Central Bank, Research Department.
    6. Toni Ahnert & Ali Kakhbod, 2014. "Information, Amplification and Financial Crisis," Working Papers 14-30, Bank of Canada.
    7. Schleer, Frauke & Semmler, Willi & Illner, Julian, 2014. "Overleveraging in the banking sector: Evidence from Europe," ZEW Discussion Papers 14-066, ZEW - Zentrum für Europäische Wirtschaftsforschung / Center for European Economic Research.
    8. Zhang, Lu & Bezemer, Dirk J., 2014. "How the Credit Cycle Affects Growth: The Role of Bank Balance Sheets," Research Report 14026-GEM, University of Groningen, Research Institute SOM (Systems, Organisations and Management).
    9. Matteo Iacoviello, 2010. "Financial Business Cycles," 2010 Meeting Papers 1053, Society for Economic Dynamics.
    10. Josef Falkinger, 2014. "In search of economic reality under the veil of financial markets," ECON - Working Papers 154, Department of Economics - University of Zurich.
    11. Gabriele Galati & Richhild Moessner, 2014. "What do we know about the effects of macroprudential policy?," DNB Working Papers 440, Netherlands Central Bank, Research Department.
    12. Alan Moreira & Alexi Savov, 2014. "The Macroeconomics of Shadow Banking," NBER Working Papers 20335, National Bureau of Economic Research, Inc.

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