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Financial (in)stability, supervision and liquidity injections : a dynamic general equilibrium approach

  • Gregory de Walque


    (National Bank of Belgium, Research Department
    University of Namur)

  • Olivier Pierrard


    (Central Bank of Luxembourg
    Catholic University of Louvain)

  • Abdelaziz Rouabah


    (Central Bank of Luxembourg)

This paper develops a dynamic stochastic general equilibrium model with interactions between an heterogeneous banking sector and other private agents. We introduce endogenous default probabilities for both firms and banks, and allow for bank regulation and liquidity injection into the interbankmarket. Our aim is to understand the importance of supervisory and monetary authorities to restore financial stability. The model is calibrated against real data and used for simulations. We show that liquidity injections reduce financial instability but have ambiguous effects on output fluctuations. The model also confirms the partial equilibrium literature results on the procyclicality of Basel II.

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Paper provided by National Bank of Belgium in its series Working Paper Research with number 148.

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Length: 37 pages
Date of creation: Oct 2008
Date of revision:
Handle: RePEc:nbb:reswpp:200810-23
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