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Deflation, Credit and Asset Prices

  • Charles Goodhart

    (London School of Economics)

  • Boris Hofmann

    (University of Bonn)

The experience of historical episodes of financial crises in the late 19th and early 20th century, and also more recent episodes of boom and bust cycles in credit markets suggest that the build up of financial imbalances is reflected in asset prices, especially property prices, rather than in consumer prices. Based on a simple VAR impulse response analysis for a sample of twelve countries we assess the nature of the close empirical correlation between bank lending and asset prices. The results suggest that innovations to property prices have a significant effect on bank lending in the large majority of countries. For most countries we do not find evidence of a significant effect of credit on property prices or of significant dynamic interaction between share prices and credit in either direction. Interest rate innovations are found to have a significantly negative effect on asset prices in some countries, while bank lending is in general found to be rather unresponsive to interest rate movements. This finding suggests that the usefulness of interest rate policy as an instrument to smooth boom-bust cycles in asset and credit markets is questionable.

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Paper provided by Hong Kong Institute for Monetary Research in its series Working Papers with number 132003.

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Length: 26 pages
Date of creation: Jul 2003
Date of revision:
Handle: RePEc:hkm:wpaper:132003
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  1. Philip Lowe & Claudio Borio, 2002. "Asset prices, financial and monetary stability: exploring the nexus," BIS Working Papers 114, Bank for International Settlements.
  2. Stefan Gerlach & Wensheng Peng, 2003. "Bank Lending and Property Prices in Hong Kong," Working Papers 122003, Hong Kong Institute for Monetary Research.
  3. Hutchison, M. & McDill, K., 1998. "Are All Banking Crises Alike? The Japanese Experience in International Comparison," Papers 99-02, Economisch Institut voor het Midden en Kleinbedrijf-.
  4. Takeo Hoshi & Anil Kashyap, 1999. "The Japanese Banking Crisis: Where Did It Come From and How Will It End?," NBER Working Papers 7250, National Bureau of Economic Research, Inc.
  5. Boris Hofmann, 2001. "The determinants of private sector credit in industrialised countries: do property prices matter?," BIS Working Papers 108, Bank for International Settlements.
  6. Bernanke, B. & Gertler, M. & Gilchrist, S., 1998. "The Financial Accelerator in a Quantitative Business Cycle Framework," Working Papers 98-03, C.V. Starr Center for Applied Economics, New York University.
  7. Bordo, Michael D & Jeanne, Olivier, 2002. "Boom-Busts in Asset Prices, Economic Instability and Monetary Policy," CEPR Discussion Papers 3398, C.E.P.R. Discussion Papers.
  8. King, Mervyn, 1994. "Debt deflation: Theory and evidence," European Economic Review, Elsevier, vol. 38(3-4), pages 419-445, April.
  9. Ben S. Bernanke, 1983. "Non-Monetary Effects of the Financial Crisis in the Propagation of the Great Depression," NBER Working Papers 1054, National Bureau of Economic Research, Inc.
  10. A. Senhadji Semlali & Charles Collyns, 2002. "Lending Booms, Real Estate Bubbles and the Asian Crisis," IMF Working Papers 02/20, International Monetary Fund.
  11. Muellbauer, John, 1994. "The Assessment: Consumer Expenditure," Oxford Review of Economic Policy, Oxford University Press, vol. 10(2), pages 1-41, Summer.
  12. Burkhard Drees & Ceyla Pazarbasioglu, 1995. "The Nordic Banking Crises: Pitfalls in Financial Liberalization?," IMF Working Papers 95/61, International Monetary Fund.
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