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Monetary Policy and Endogenous Financial Crises

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  • Boissay, Frederic
  • Galí, Jordi
  • Manea, Cristina

Abstract

We study whether a central bank should deviate from its objective of price stability to promote financial stability. We tackle this question within a textbook New Keynesian model augmented with capital accumulation and microfounded endogenous financial crises. We compare several interest rate rules, under which the central bank responds more or less forcefully to inflation and aggregate output. Our main findings are threefold. First, monetary policy affects the probability of a crisis both in the short run (through aggregate demand) and in the medium run (through savings and capital accumulation). Second, a central bank can both reduce the probability of a crisis and increase welfare by departing from strict inflation targeting and responding systematically to fluctuations in output. Third, financial crises may occur after a long period of unexpectedly loose monetary policy as the central bank abruptly reverses course.

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  • Boissay, Frederic & Galí, Jordi & Manea, Cristina, 2022. "Monetary Policy and Endogenous Financial Crises," CEPR Discussion Papers 16825, C.E.P.R. Discussion Papers.
  • Handle: RePEc:cpr:ceprdp:16825
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    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. Monetary Policy and Endogenous Financial Crises
      by Christian Zimmermann in NEP-DGE blog on 2022-02-06 04:40:28

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    Cited by:

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    2. Gabriel Jiménez & Dmitry Kuvshinov & José-Luis Peydró & Björn Richter, 2022. "Monetary Policy, Inflation, and Crises: New Evidence from History and Administrative Data," Working Papers 1378, Barcelona School of Economics.
    3. Alessio Brini & Gabriele Tedeschi & Daniele Tantari, 2022. "Reinforcement Learning Policy Recommendation for Interbank Network Stability," Papers 2204.07134, arXiv.org.
    4. Mandeya Shelton M.T & Ho Sin-Yu, 2022. "Inflation, Inflation Uncertainty and the Economic Growth Nexus: A Review of the Literature," Folia Oeconomica Stetinensia, Sciendo, vol. 22(1), pages 172-190, June.
    5. Gadi Barlevy, 2022. "On Speculative Frenzies and Stabilization Policy," Working Paper Series WP 2022-35, Federal Reserve Bank of Chicago.
    6. Adam Hale Shapiro, 2022. "Decomposing Supply and Demand Driven Inflation," Working Paper Series 2022-18, Federal Reserve Bank of San Francisco.

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    More about this item

    Keywords

    Financial crises; Monetary policy;

    JEL classification:

    • E1 - Macroeconomics and Monetary Economics - - General Aggregative Models
    • E3 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles
    • E6 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook
    • G01 - Financial Economics - - General - - - Financial Crises

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