Capital Regulation in a Macroeconomic Model with Three Layers of Default

We develop a dynamic general equilibrium model for the positive and normative analysis of macroprudential policies. Optimizing financial intermediaries allocate their scarce net worth together with funds raised from saving households across two lending activities, mortgage and corporate lending. For all borrowers (households, firms, and banks) external financing takes the form of debt which is subject to default risk. This “3D model” shows the interplay between three interconnected net worth channels that cause financial amplification and the distortions due to deposit insurance. We apply it to the analysis of capital regulation.

[1]  Ildefonso Méndez,et al.  Promoting permanent employment: lessons from Spain , 2013 .

[2]  J. Galí,et al.  Discussion of Gertler and Kiyotaki's "Banking, Liquidity and Bank Runs in an In…nite Horizon Economy" , 2014 .

[3]  Javier Bianchi,et al.  Overborrowing and Systemic Externalities in the Business Cycle , 2009 .

[4]  Philip H. Dybvig,et al.  Bank Runs, Deposit Insurance, and Liquidity , 1983, Journal of Political Economy.

[5]  Gerard Llobet,et al.  Entrepreneurial Innovation, Patent Protection, and Industry Dynamics , 2010 .

[6]  Kevin Moran,et al.  The Role of Bank Capital in the Propagation of Shocks , 2010 .

[7]  Javier Suarez,et al.  Dynamic Maturity Transformation∗ , 2011 .

[8]  Pierlauro Lopez.  The Term Structure of the Welfare Cost of Uncertainty , 2013 .

[9]  Enrique Sentana,et al.  Multivariate Location-Scale Mixtures of Normals and Mean-Variance-Skewness Portfolio Allocation , 2009 .

[10]  Lawrence J. Christiano,et al.  Financial Factors in Economic Fluctuations , 2010, SSRN Electronic Journal.

[11]  Matteo Iacoviello.  Financial Business Cycles , 2014 .

[12]  N. Kiyotaki,et al.  Banking, Liquidity and Bank Runs in an Infinite-Horizon Economy , 2013 .

[13]  Harold L. Cole.  Discussion of Gertler and Karadi: A model of unconventional monetary policy , 2011 .

[14]  L. Sessa,et al.  Credit and Banking in a DSGE Model of the Euro Area , 2010 .

[15]  Douglas Gale,et al.  Incentive-Compatible Debt Contracts: The One-Period Problem (Revised version now published in Review of Economic Studies, 1985).) , 1985 .

[16]  M. Villani,et al.  Forecasting Performance of an Estimated Open Economy DSGE Model for the Euro Area , 2005 .

[17]  Roberto Serrano,et al.  Equilibrium blocking in large quasilinear economies , 2009 .

[18]  Kōzō Ueda,et al.  Capital Injection, Monetary Policy, and Financial Accelerators , 2013 .

[19]  Juan José Ganuza,et al.  Optional law for firms and consumers: An economic analysis of opting into the Common European Sales Law , 2012, Common Market Law Review.

[20]  Javier Suarez,et al.  The Macroeconomics of Money Market Freezes , 2009 .

[21]  Financial Regulation in General Equilibrium , 2012, Financial Regulation and Stability.

[22]  B. Bernanke,et al.  Chapter 21 The financial accelerator in a quantitative business cycle framework , 1999 .

[23]  M. Brzoza‐Brzezina,et al.  The Anatomy of Standard DSGE Models with Financial Frictions , 2011 .

[24]  Stéphane Bonhomme,et al.  The Cycle of Earnings Inequality: Evidence from Spanish Social Security Data , 2012, SSRN Electronic Journal.

[25]  Roberto Serrano,et al.  On Watson's Non-Forcing Contracts and Renegotiation , 2004 .

[26]  J. Suárez,et al.  Dinamic Maturity Transformation , 2011 .

[27]  F. Smets,et al.  Approaches to monetary policy revisited - lessons from the crisis, 6th ECB Central Banking Conference, 18-19 November 2010 , 2011 .

[28]  Neil Wallace,et al.  Deposit Insurance and Bank Regulation: A Partial-Equilibrium Exposition , 1977 .

[29]  John Geanakoplos,et al.  Liquidity, Default and Crashes: Endogenous Contracts in General Equilibrium , 2001 .

[30]  Monica Martinez-Bravo,et al.  EDUCATE TO LEAD? THE LOCAL POLITICAL ECONOMY EFFECTS OF SCHOOL CONSTRUCTION IN INDONESIA , 2014 .

[31]  Markus K. Brunnermeier,et al.  A Macroeconomic Model with a Financial Sector , 2012 .

[32]  Josep Pijoan-Mas,et al.  Spain is Different: Falling Trends of Inequality , 2009 .

[33]  Monica Martinez-Bravo,et al.  The Role of Local Officials in New Democracies: Evidence from Indonesia , 2014 .

[34]  Gary B. Gorton,et al.  The Information Sensitivity of a Security , 2013 .

[35]  Antoine Berthou,et al.  Trade Networks and Colonial Trade Spillovers , 2014 .

[36]  Richard K. Crump,et al.  Federal Reserve Bank of New York Staff Reports Fundamental Disagreement Fundamental Disagreement , 2022 .

[37]  A. Krishnamurthy,et al.  A Model of Capital and Crises , 2008 .

[38]  Josep Pijoan-Mas,et al.  Flat Tax Reforms: Investment Expensing and Progressivity , 2011 .

[39]  Daniel Trefler,et al.  International Trade and Institutional Change: Medieval Venice's Response to Globalization , 2012 .

[40]  Enrique Sentana,et al.  Distributional Tests in Multivariate Dynamic Models with Normal and Student-t Innovations , 2009, Review of Economics and Statistics.

[41]  A. Shleifer,et al.  Unstable Banking , 2009 .

[42]  Luisa Lambertini,et al.  Risky Mortgages in a DSGE Model , 2010 .

[43]  B. Bernanke,et al.  Agency Costs, Net Worth, and Business Fluctuations , 1988 .

[44]  P. Mira,et al.  Caregiving to Elderly Parents and Employment Status of European Mature Women , 2014, Review of Economics and Statistics.

[45]  Pamfili M. Antipa.  How Fiscal Policy Affects the Price Level: Britain's First Experience with Paper Money , 2014 .

[46]  Gabriele Fiorentini,et al.  Neglected serial correlation tests in UCARIMA models , 2015, SERIEs.

[47]  Elena Manresa,et al.  Grouped Patterns of Heterogeneity in Panel Data , 2015 .

[48]  Thomas Le Barbanchon,et al.  Two-Tier Labor Markets in the Great Recession: France vs. Spain , 2010, SSRN Electronic Journal.

[49]  Markus K. Brunnermeier,et al.  Macroeconomics with Financial Frictions: A Survey , 2012 .

[50]  Christoffer Kok,et al.  Macroeconomic Propagation Under Different Regulatory Regimes: Evidence From an Estimated DSGE Model For the Euro Area , 2010, SSRN Electronic Journal.

[51]  M. Woodford,et al.  Credit Frictions and Optimal Monetary Policy , 2008 .

[52]  Enrique Moral-Benito,et al.  Panel growth regressions with general predetermined variables: Likelihood-based estimation and bayesian averaging , 2010 .

[53]  D. Miles,et al.  Optimal Bank Capital , 2011 .

[54]  J. Jimeno,et al.  Reforming an insider-outsider labor market: the Spanish experience , 2011, SSRN Electronic Journal.

[55]  Antoine Bozio,et al.  Impact of Research Tax Credit on R&D and Innovation: Evidence from the 2008 French Reform , 2014 .

[56]  Gabriele Fiorentini,et al.  Sequential estimation of shape parameters in multivariate dynamic models , 2012 .

[57]  Enrique Sentana,et al.  The Econometrics of Mean-Variance Efficiency Tests: A Survey , 2009 .

[58]  J. Mencía,et al.  Distributional Linkages between European Sovereign Bond and Bank Asset Returns , 2014 .

[59]  Gerard Llobet,et al.  Walking Wounded or Living Dead? Making Banks Foreclose Bad Loans , 2010 .

[60]  Clément Marsilli,et al.  Variable Selection in Predictive MIDAS Models , 2014 .

[61]  Ildefonso Méndez,et al.  Intergenerational Time Transfers and Internal Migration: Accounting for Low Spatial Mobility in Southern Europe , 2008 .

[62]  Sarah Mouabbi.  An Arbitrage-Free Nelson-Siegel Term Structure Model with Stochastic Volatility for the Determination of Currency Risk Premia , 2014 .

[63]  Ester Faia,et al.  Capital regulation and monetary policy with fragile banks , 2013 .

[64]  Gabriele Fiorentini,et al.  Dynamic Specification Tests for Static Factor Models , 2009 .

[65]  Josep Pijoan-Mas,et al.  Durable Goods, Borrowing Constraints and Consumption Insurance , 2012 .

[66]  Pablo Lavado,et al.  The Effect of a Child on Female Work when Family Planning May Fail , 2014 .

[67]  Roberto Ramos,et al.  Dissecting the Size Distribution of Establishments Across Countries , 2012 .

[68]  Ildefonso Méndez,et al.  The Role of Partnership Status and Expectations on the Emancipation Behaviour of Spanish Graduates , 2008 .

[69]  Stéphane Bonhomme,et al.  Stéphane Bonhomme Ulrich Sauder Accounting for unobservables in comparing selective and comprehensive schooling , 2009 .

[70]  Miklos Vari.  Implementing monetary policy in a fragmented monetary union∗ , 2014 .

[71]  Rafael Repullo,et al.  Mitigating the Pro-Cyclicality of Basel II , 2010 .

[72]  Javier Suarez,et al.  The Spanish Crisis: Background and Policy Challenges , 2010 .

[73]  P. Mira,et al.  Compulsory Schooling, Education and Mental Health: New Evidence from SHARELIFE , 2013 .

[74]  R. Townsend.  Optimal contracts and competitive markets with costly state verification , 1979 .

[75]  Javier Suarez,et al.  The Procyclical Effects of Basel II , 2008 .

[76]  Matteo Iacoviello.  House prices, borrowing constraints and monetary policy in the business cycle , 2005 .

[77]  Cristina Lopez-Mayan,et al.  Microeconometric Analysis of Residential Water Demand , 2008 .

[78]  N. Kiyotaki,et al.  Financial crises, bank risk exposure and government financial policy , 2012 .

[79]  Rosario Crinò,et al.  Financial Frictions, Product Quality, and International Trade , 2015 .

[80]  D. Puga,et al.  Learning by Working in Big Cities , 2012 .

[81]  J. Andreoni.  Giving with Impure Altruism: Applications to Charity and Ricardian Equivalence , 1989, Journal of Political Economy.

[82]  J. Black.  Prudential regulation of banks , 2013 .

[83]  Gilles Duranton,et al.  The Growth of Cities , 2013 .

[84]  Spain,et al.  Dynamic Correlations , Estimation Risk , and Portfolio Management during the Financial Crisis , 2011 .

[85]  K. Davis.  The Bankers' New Clothes, by Anat Admati and Martin Hellwig (Princeton University Press, Princeton, 2013), pp. xv + 398. , 2013 .

[86]  Richard Luger,et al.  Dynamic correlations, estimation risk, and porfolio management during the financial crisis , 2011 .

[87]  E. Mendoza,et al.  Overborrowing, Financial Crises and ‘Macro-Prudential’ Policy? , 2011, SSRN Electronic Journal.

[88]  B. Mccallum,et al.  Banking and Interest Rates in Monetary Policy Analysis: A Quantitative Exploration , 2007 .

[89]  Charles T. Carlstrom,et al.  Agency Costs, Net Worth, and Business Fluctuations: A Computable General Equilibrium Analysis , 1998 .

[90]  Martin Brown,et al.  Switching Costs, Deposit Insurance and Deposit Withdrawals from Distressed Banks , 2013 .

[91]  José-Víctor Ríos-Rull,et al.  Heterogeneity in Expected Longevities , 2012, Demography.

[92]  Stefan Krasa,et al.  Monitoring the monitor: An incentive structure for a financial intermediary , 1992 .

[93]  Enrique Sentana,et al.  A Comparison of Mean-Variance Efficiency Tests , 2008 .

[94]  J. Córdoba,et al.  Credit Cycles , 2003 .

[95]  F. Bec,et al.  How Do Oil Price Forecast Errors Impact Inflation Forecast Errors? An Empirical Analysis from French and US Inflation Forecasts , 2014 .

[96]  Roland Pongou,et al.  A Dynamic Theory of Fidelity Networks with an Application to the Spread of HIV / AIDS , 2009 .

[97]  J. Llull,et al.  The Impact of Immigration on Productivity , 2008 .

[98]  S. V. D. Heuvel,et al.  The Welfare Cost of Bank Capital Requirements , 2008 .

[99]  N. Kiyotaki.  Discussion of “capital regulation in a macroeconomic model with three layers of default” , 2015 .

[100]  J. Suárez,et al.  A Macroeconomic Model of Endogenous Systemic Risk Taking , 2012 .

[101]  Co-Pierre Georg,et al.  A Network View on Interbank Market Freezes , 2014, SSRN Electronic Journal.

[102]  M. Shubik,et al.  Macro-Modelling, Default and Money , 2016 .

[103]  J. Rochet,et al.  Aggregate Investment Externalities and Macroprudential Regulation , 2012 .

[104]  Anne Layne-Farrar,et al.  An Economic Take on Patent Licensing: Understanding the Implications of the 'First Sale Patent Exhaustion' Doctrine , 2009 .

[105]  Enrique Moral-Benito,et al.  Model Averaging in Economics , 2011 .

[106]  Lawrence J. Christiano,et al.  Leverage Restrictions in a Business Cycle Model , 2013 .

[107]  E. Mendoza,et al.  Overborrowing, Financial Crises and 'Macro-Prudential' Taxes , 2010 .

[108]  Stephen D. Williamson.  Costly Monitoring, Loan Contracts, and Equilibrium Credit Rationing , 1987 .

[109]  Michael Kumhof,et al.  Risky Bank Lending and Optimal Capital Adequacy Regulation , 2011, SSRN Electronic Journal.

[110]  Roberto Ramos,et al.  Banning US Foreign Bribery: Do US Firms Win? , 2013 .

[111]  J. Matheron,et al.  Assessing the Macroeconomic Effects of LTROs , 2014 .

[112]  P. Cahuc,et al.  Land collateral and labor market dynamics in France , 2016 .

[113]  Lawrence J. Christiano,et al.  Risk Shocks , 2013 .

[114]  Josep Pijoan-Mas,et al.  Small Scale Reservation Laws and the Misallocation of Talent , 2011 .

[115]  Roberto Serrano,et al.  Multiplicity of Mixed Equilibria in Mechanisms: A Unified Approach to Exact and Approximate Implementation , 2009 .

[116]  Stéphane Bonhomme,et al.  Identifying distributional characteristics in random coefficients panel data models , 2009 .

[117]  M. Gertler,et al.  A model of unconventional monetary policy , 2011 .

[118]  Enrique Sentana,et al.  Valuation of Vix Derivatives , 2010 .

[119]  Douglas W. Diamond.  Financial Intermediation and Delegated Monitoring , 1984 .

[120]  Rafael Repullo,et al.  The Countercyclical Capital Buffer of Basel III: A Critical Assessment , 2011 .

[121]  Gerard Llobet,et al.  Advertising and Consumer Awareness of New, Differentiated Products , 2012 .

[122]  Gerard Llobet,et al.  Strategic Online-Banking Adoption , 2010 .

[123]  Harris Dellas,et al.  Optimal Monetary and Prudential Policies , 2012 .

[124]  F. Vega-Redondo.  Complex Social Networks: Econometric Society Monographs , 2007 .

[125]  P. Bolton,et al.  A Theory of Trickle-Down Growth and Development , 1997 .

[126]  Anton Korinek,et al.  Managing Credit Booms and Busts: A Pigouvian Taxation Approach , 2010, Journal of Monetary Economics.

[127]  Sonia Ruano,et al.  When Credit Dries Up: Job Losses in the Great Recession , 2013, SSRN Electronic Journal.

[128]  Rafael Repullo,et al.  Cyclical Adjustment of Capital Requirements: A Simple Framework , 2012 .

[129]  Eric R. Young,et al.  Financial Crisis and Macro-Prudential Policies , 2011 .

[130]  Benjamin Klaus,et al.  Euro Area business cycles in turbulent times: convergence or decoupling? , 2015 .

[131]  B. Bernanke,et al.  The Financial Accelerator in a Quantitative Business Cycle Framework , 1998 .

[132]  Arnoud Boot,et al.  The Economics of Bank Regulation , 1995 .

[133]  Gabriele Fiorentini,et al.  TESTS FOR SERIAL DEPENDENCE IN STATIC, NON-GAUSSIAN FACTOR MODELS , 2012 .

[134]  C. Goodhart,et al.  A model to analyse financial fragility , 2004 .

[135]  Felipe Carozzi,et al.  Sending the Pork Home: Birth Town Bias in Transfers to Italian Municipalities , 2013, SSRN Electronic Journal.

[136]  Anne Layne-Farrar,et al.  Payments and Participation: The Incentives to Join Cooperative Standard Setting Efforts , 2011 .

[137]  Ryo Kato,et al.  Matlab code for Kiyotaki-Moore credit cycles , 2003 .

[138]  Javier Suarez,et al.  The Procyclical Effects of Bank Capital Regulation , 2009 .

[139]  Max Bruche,et al.  Bankruptcy Codes, Liquidation Timing, and Debt Valuation , 2009 .

[140]  Rafael Repullo,et al.  Does Competition Reduce the Risk of Bank Failure? , 2008 .

[141]  N. Kiyotaki,et al.  Financial Intermediation and Credit Policy in Business Cycle Analysis , 2010 .

[142]  Anatoli Segura,et al.  Why Did Sponsor Banks Rescue their SIVs? A Signaling Model of Rescues , 2014 .