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Credit Crises, Precautionary Savings, and the Liquidity Trap

  • Veronica Guerrieri
  • Guido Lorenzoni

We study the effects of a credit crunch on consumer spending in a heterogeneous-agent incomplete-market model. After an unexpected permanent tightening in consumers' borrowing capacity, some consumers are forced to deleverage and others increase their precautionary savings. This depresses interest rates, especially in the short run, and generates an output drop, even with flexible prices. The output drop is larger with nominal rigidities, if the zero lower bound prevents the interest rate from adjusting downwards. Adding durable goods to the model, households take larger debt positions and the output response may be larger.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 17583.

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Date of creation: Nov 2011
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Handle: RePEc:nbr:nberwo:17583
Note: EFG ME
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  13. Veronica Guerrieri & Guido Lorenzoni, 2009. "Liquidity and Trading Dynamics," Econometrica, Econometric Society, vol. 77(6), pages 1751-1790, November.
  14. Gauti B. Eggertsson & Michael Woodford, 2003. "The Zero Bound on Interest Rates and Optimal Monetary Policy," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 34(1), pages 139-235.
  15. Thomas Philippon & Virgiliu Midrigan, 2011. "Household Leverage and the Recession," NBER Working Papers 16965, National Bureau of Economic Research, Inc.
  16. Francisco J. Buera & Benjamin Moll, 2012. "Aggregate Implications of a Credit Crunch," NBER Working Papers 17775, National Bureau of Economic Research, Inc.
  17. Flodén, Martin & Linde, Jesper, 1998. "Idiosyncratic Risk in the U.S. and Sweden: Is there a Role for Government Insurance?," Seminar Papers 654, Stockholm University, Institute for International Economic Studies.
  18. Matteo Iacoviello, 2005. "House Prices, Borrowing Constraints, and Monetary Policy in the Business Cycle," American Economic Review, American Economic Association, vol. 95(3), pages 739-764, June.
  19. Gertler, Mark & Karadi, Peter, 2011. "A model of unconventional monetary policy," Journal of Monetary Economics, Elsevier, vol. 58(1), pages 17-34, January.
  20. Xavier Ragot & Edouard Challe, 2011. "Precautionary Saving over the Business Cycle," 2011 Meeting Papers 517, Society for Economic Dynamics.
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