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Financial factors in economic fluctuations

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  • Christiano, Lawrence
  • Motto, Roberto
  • Rostagno, Massimo

Abstract

We augment a standard monetary DSGE model to include a banking sector and financial markets. We fit the model to Euro Area and US data. We find that agency problems in financial contracts, liquidity constraints facing banks and shocks that alter the perception of market risk and hit financial intermediation — ‘financial factors’ in short — are prime determinants of economic fluctuations. They have been critical triggers and propagators in the recent financial crisis. Financial intermediation turns an otherwise diversifiable source of idiosyncratic economic uncertainty, the ‘risk shock’, into a systemic force. JEL Classification: E3, E22, E44, E51, E52, E58, C11, G1, G21, G3

Suggested Citation

  • Christiano, Lawrence & Motto, Roberto & Rostagno, Massimo, 2010. "Financial factors in economic fluctuations," Working Paper Series 1192, European Central Bank.
    • Handle: RePEc:ecb:ecbwps:20101192
    Note: 364643
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    Keywords

    bayesian estimation; DSGE model; financial frictions; financial shocks; Funding channel; Lending channel;
    All these keywords.

    JEL classification:

    • E3 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles
    • E22 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Investment; Capital; Intangible Capital; Capacity
    • 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
    • E - Macroeconomics and Monetary Economics

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