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Does interbank market matter for business cycle fluctuation? An estimated DSGE model with financial frictions for the Euro area

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  • Giri, Federico

Abstract

The aim of this paper is to assess the impact of an increase in the European interbank riskiness and its influence on the business cycle. In order to do that, we build an estimated DSGE model that includes an explicit interbank market. Our results show that an increase of interbank default risk can generate a money market freeze. The subsequent flight-to-quality diverts funds from the risky interbank to the safer government bonds market causing a reduction of the credit supply. In this scenario, the standard monetary policy is ineffective due to the decoupling of policy and credit interest rates. A supplementary monetary stimulus is able to reduce default risk and thus shifting financial intermediaries preferences towards interbank lending. Finally, the monetary authority is able to avoid the accumulation of safe assets, partially alleviating the liquidity shortage and, to a lesser extent, dampen the drop in the real activity.

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  • Giri, Federico, 2018. "Does interbank market matter for business cycle fluctuation? An estimated DSGE model with financial frictions for the Euro area," Economic Modelling, Elsevier, vol. 75(C), pages 10-22.
  • Handle: RePEc:eee:ecmode:v:75:y:2018:i:c:p:10-22
    DOI: 10.1016/j.econmod.2018.06.002
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    1. Does Interbank Market Matter for Business Cycle Fluctuation? An Estimated DSGE Model with Financial Frictions for the Euro Area
      by Christian Zimmermann in NEP-DGE blog on 2014-04-29 19:07:12

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    1. Khoshnevis , Maryam & Ahmadyan , Azam, 2017. "Modeling Basel Regulatory in DSGE with Emphasis on Adequacy Regulatory," Journal of Money and Economy, Monetary and Banking Research Institute, Central Bank of the Islamic Republic of Iran, vol. 12(4), pages 379-407, October.
    2. Georgios Georgiadis & Martina Jancokova, 2017. "Financial Globalisation, Monetary Policy Spillovers and Macro-modelling: Tales from 1001 Shocks," GRU Working Paper Series GRU_2017_008, City University of Hong Kong, Department of Economics and Finance, Global Research Unit.
    3. Shakeri , Abbas & Ahmadian , Azam, 2013. "A Model of Financial Shocks at Bank and Interbank of Iran (DSGE)," Journal of Money and Economy, Monetary and Banking Research Institute, Central Bank of the Islamic Republic of Iran, vol. 8(4), pages 19-58, October.

    More about this item

    Keywords

    DSGE model; Safe asset hoarding; Interbank market; Default risk; Bayesian estimation; Monetary policy;

    JEL classification:

    • E30 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - General (includes Measurement and Data)
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E51 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Money Supply; Credit; Money Multipliers
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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