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U.S. business cycles, monetary policy and the external finance premium

  • Martínez-García, Enrique

    (Federal Reserve Bank of Dallas)

I investigate a model of the U.S. economy with nominal rigidities and a financial accelerator mechanism à la Bernanke et al. (1999). I calculate total factor productivity and monetary policy deviations for the U.S. and quantitatively explore the ability of the model to account for the cyclical patterns of GDP (excluding government), investment, consumption, the share of hours worked, inflation and the quarterly interest rate spread between the Baa corporate bond yield and the 20-year Treasury bill rate during the Great Moderation. I show that the magnitude and cyclicality of the external finance premium depend nonlinearly on the degree of price stickiness (or lack thereof) in the Bernanke et al. (1999) model and on the specification of both the target Taylor (1993) rate for policy and the exogenous monetary shock process.> ; The strong countercyclicality of the external finance premium induces substitution away from consumption and into investment in periods where output grows above its long-run trend as the premium tends to fall below its steady state and financing investment becomes temporarily cheaper. The less frequently prices change in this environment, the more accentuated the fluctuations of the external finance premium are and the more dominant they become on the dynamics of investment, hours worked and output. However, these features—the countercyclicality and large volatility of the spread—are counterfactual and appear to be a key impediment limiting the ability of the model to account for the U.S. data over the Great Moderation period.

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Paper provided by Federal Reserve Bank of Dallas in its series Globalization and Monetary Policy Institute Working Paper with number 160.

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Length: 68 pages
Date of creation: 2013
Date of revision:
Handle: RePEc:fip:feddgw:160
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  1. Susanto Basu, 1996. "Procyclical Productivity: Increasing Returns or Cyclical Utilization?," The Quarterly Journal of Economics, Oxford University Press, vol. 111(3), pages 719-751.
  2. Gomme, Paul & Rupert, Peter, 2007. "Theory, measurement and calibration of macroeconomic models," Journal of Monetary Economics, Elsevier, vol. 54(2), pages 460-497, March.
  3. Christiano, Lawrence & Motto, Roberto & Rostagno, Massimo, 2004. "The Great Depression and the Friedman-Schwartz hypothesis," Working Paper Series 0326, European Central Bank.
  4. Kiyotaki, Nobuhiro & Moore, John, 1997. "Credit Cycles," Journal of Political Economy, University of Chicago Press, vol. 105(2), pages 211-48, April.
  5. Calvo, Guillermo A., 1983. "Staggered prices in a utility-maximizing framework," Journal of Monetary Economics, Elsevier, vol. 12(3), pages 383-398, September.
  6. Tommaso Monacelli & Ester Faia, 2005. "Optimal Interest Rate Rules, Asset Prices and Credit Frictions," Computing in Economics and Finance 2005 452, Society for Computational Economics.
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