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Liquidity when it matters: QE and Tobin’s q

Author

Listed:
  • Driffill, John

    (Birkbeck, University of London)

  • Miller, Marcus

    (University of Warwick)

Abstract

When financial markets freeze in fear, borrowing costs for solvent governments may fall towards zero in a flight to quality – but credit-worthy private borrowers can be starved of external funding. In Kiyotaki and Moore (2008), where liquidity crisis is captured by the effective rationing of private credit, tightening credit constraints have direct effects on investment. If prices are sticky, the effects on aggregate demand can be pronounced – as reported by FRBNY for the US economy using a calibrated DSGE-style framework modified to include such frictions. In such an environment, two factors stand out. First the recycling of credit flows by central banks can dramatically ease credit-rationing faced by private investors: this is the rationale for Quantitative Easing. Second, revenue-neutral fiscal transfers aimed at would-be investors can have similar effects. We show these features in a stripped- down macro model of inter-temporal optimisation subject to credit constraints.

Suggested Citation

  • Driffill, John & Miller, Marcus, 2011. "Liquidity when it matters: QE and Tobin’s q," CAGE Online Working Paper Series 68, Competitive Advantage in the Global Economy (CAGE).
  • Handle: RePEc:cge:wacage:68
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    References listed on IDEAS

    as
    1. V. V. Chari & Patrick J. Kehoe & Ellen R. McGrattan, 2007. "Business Cycle Accounting," Econometrica, Econometric Society, vol. 75(3), pages 781-836, May.
    2. Milne,Alistair, 2009. "The Fall of the House of Credit," Cambridge Books, Cambridge University Press, number 9780521762144, October.
    3. Nicola Gennaioli & Andrei Shleifer & Robert Vishny, 2010. "Financial Innovation and Financial Fragility," NBER Chapters,in: Market Institutions and Financial Market Risk National Bureau of Economic Research, Inc.
    4. Kevin C. Murdock & Thomas F. Hellmann & Joseph E. Stiglitz, 2000. "Liberalization, Moral Hazard in Banking, and Prudential Regulation: Are Capital Requirements Enough?," American Economic Review, American Economic Association, vol. 90(1), pages 147-165, March.
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    Cited by:

    1. Marcus Miller & Lei Zhang, 2015. "The Hedgehog and the Fox: From DSGE to Macro-Pru," Manchester School, University of Manchester, vol. 83, pages 31-55, September.
    2. repec:mbr:jmonec:v:9:y:2014:i:4:p:73-108 is not listed on IDEAS
    3. John Driffill, 2016. "Unconventional Monetary Policy in the Euro Zone," Open Economies Review, Springer, vol. 27(2), pages 387-404, April.
    4. Vivek Prasad, 2015. "Balanced Budget Tax Cuts in a Liquidity-Constrained Economy," Manchester School, University of Manchester, vol. 83, pages 87-119, September.

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