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On the welfare gains of eliminating a small likelihood of economic crises: A case for stabilization policies?

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  • Satyajit Chatterjee
  • Dean Corbae

Abstract

In this paper the authors estimate the potential benefit of policies that eliminate a small likelihood of economic crises. They define an economic crisis as a Depression-style collapse of economic activity. For the U.S., based on the observed frequency of Depression-like events, the authors estimate the likelihood of encountering a depression to be about once every 83 years. Even for this small probability of moving into a Depression-like state, the welfare gain from setting it to zero can range between 1 and 7 percent of annual consumption, in perpetuity. These estimates are large in comparison to welfare costs typically found for microeconomic distortions and suggest that there may be a net benefit to policies directed toward preventing economic instability.

Suggested Citation

  • Satyajit Chatterjee & Dean Corbae, 2003. "On the welfare gains of eliminating a small likelihood of economic crises: A case for stabilization policies?," Working Papers 03-20, Federal Reserve Bank of Philadelphia.
    • Handle: RePEc:fip:fedpwp:03-20
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    Cited by:

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    2. Preston J. Miller & Gary H. Stern, 2004. "Avoiding significant monetary policy mistakes," Quarterly Review, Federal Reserve Bank of Minneapolis, vol. 28(Dec), pages 2-9.
    3. Ennis, Huberto M. & Keister, Todd, 2005. "Optimal fiscal policy under multiple equilibria," Journal of Monetary Economics, Elsevier, vol. 52(8), pages 1359-1377, November.
    4. Merlin, Giovanni Tondin, 2018. "Entrepreneurship, financial frictions and the welfare gains of business cycles," Textos para discussão 484, FGV EESP - Escola de Economia de São Paulo, Fundação Getulio Vargas (Brazil).

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