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Do Banking Shocks Matter for the U.S. Economy?

  • Naohisa Hirakata

    (Deputy Director and Economist, Research and Statistics Department, Bank of Japan (E-mail: naohisa.hirakata@boj.or.jp))

  • Nao Sudo

    (Deputy Director and Economist, Institute for Monetary and Economic Studies, Bank of Japan (E-mail: nao.sudou@boj.or.jp))

  • Kozo Ueda

    (Director and Senior Economist, Institute for Monetary and Economic Studies, Bank of Japan (E-mail: kouzou.ueda boj.or.jp))

Recent financial turmoil and existing empirical evidence suggest that adverse shocks to the financial intermediary (FI) sector cause substantial economic downturns. The quantitative significance of these shocks to the U.S. business cycle, however, has not received much attention up to now. To determine the importance of these shocks, we estimate a sticky-price dynamic stochastic general equilibrium model with what we describe as chained credit contracts. In this model, credit- constrained FIs intermediate funds from investors to credit-constrained entrepreneurs through two types of credit contract. Using Bayesian estimation, we extract the shocks to the FIs' net worth. The shocks are cyclical, typically negative during a recession, such as the one that began in 2007. Their effects are persistent, lowering economic activity for several quarters after the recessionary trough. According to the variance decomposition, shocks to the FI sector are a main source of the spread variations, explaining 39% of the FIs' borrowing spread and 23% of the entrepreneurial borrowing spread. At the same time, these shocks play an important but not dominant role for investment, accounting for 15% of its variations.

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Paper provided by Institute for Monetary and Economic Studies, Bank of Japan in its series IMES Discussion Paper Series with number 10-E-13.

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Date of creation: Jul 2010
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Handle: RePEc:ime:imedps:10-e-13
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