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Efficient Bailouts?

  • Javier Bianchi

    (NYU and Wisconsin)

This paper develops a non-linear DSGE model to assess the interaction between ex-post interventions in credit markets and the build-up of risk ex ante. During a systemic crisis, bailouts to the financial sector relax balance sheet constraints and accelerate the economic recovery. Ex ante, the anticipation of such bailouts leads to an increase in risk-taking, making the economy more vulnerable to a financial crisis. We find that the optimal intervention in the economy requires a bailout of around two percentage points of GDP during a credit crunch. We also show how bailouts may increase financial fragility in the absence of prudential policy.

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Paper provided by Society for Economic Dynamics in its series 2012 Meeting Papers with number 162.

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Date of creation: 2012
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Handle: RePEc:red:sed012:162
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Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA

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