A Theory of Macroprudential Policies in the Presence of Nominal Rigidities

By Emmanuel Farhi, I. Werning. 2013

416 citations recorded by the source corpus.

We propose a theory of monetary policy and macroprudential interventions in financial markets. We focus on economies with nominal rigidities in goods and labor markets and subject to constraints on monetary policy, such as the zero lower bound or fixed exchange rates. We identify an aggregate demand externality that can be corrected by macroprudential interventions in financial markets. Ex post, the distribution of wealth across agents affects aggregate demand and output. Ex ante, however, these effects are not internalized in private financial decisions. We provide a simple formula for the required financial interventions that depends on a small number of measurable sufficient statistics. We also characterize optimal monetary policy. We extend our framework to incorporate pecuniary externalities, providing a unified approach to both externalities. Finally, we provide a number of applications which illustrate the relevance of our theory.

Subfields: Economics and Econometrics, Finance

View Paper: https://www.semanticscholar.org/paper/1b9a9b0277d2a49335198f4332642b148dadc402

How researchers see this paper

The researchers whose trusted networks rank it highest, strongest advocate first. Every researcher gets a different order.

In Economics and Econometrics

In Finance

Citations in the corpus

Monetary Policy, Bounded Rationality, and Incomplete Markets (2019, background): “As shown by Farhi and Werning (2016a), future spending is more powerful—a “fiscal forward guidance puzzle”.”
Credit-Market Sentiment and the Business Cycle (2017, neutral): “Hall (2011), Eggertsson and Krugman (2012), and Guerrieri and Lorenzoni (2015) all argue that the resulting downturn will be deeper and more protracted when the zero lower bound (ZLB) on interest rates interferes with the equilibrating process set in motion by a shock that requires agents to reduce ”
Monetary Policy and the Redistribution Channel (2017, neutral): “Second, unexpected inflation revalues nominal balance sheets, with nominal creditors losing and nominal debtors gaining: this is the Fisher channel, which has a long history in the literature since Fisher (1933). This channel has been explored by Doepke and Schneider (2006), who measure the balance ”
Trilemmas and trade-offs: living with financial globalisation (2015, background): “In an economy with nominal rigidities, for example, excessive private borrowing may entail negative demand externalities which private agents do not internalise; see Eggertsson and Krugman (2012) and Farhi and Werning (2013), among others.”
What Explains the 2007-2009 Drop in Employment?: The 2007-2009 Drop in Employment (2014, positive): “, Eggertsson and Krugman (2012), Guerrieri and Lorenzoni (2011), Hall (2011), Midrigan and Philippon (2011), and Farhi and Werning (2013)). This paper is one of the first empirical studies that exploit detailed crosssectional variation to explicitly test the employment consequences of housing net wo”
Optimal Time-Consistent Macroprudential Policy (2017, background): “In particular, Schmitt-Grohé and Uribe (2014) and Farhi and Werning (2016) examine the scope for macroprudential policy as a tool for smoothing aggregate demand in the presence of nominal rigidities.”
Networks and the Macroeconomy: An Empirical Exploration (2016, neutral): “…2012; Mian, Rao, and Sufi 2013); to the role of real and nominal rigidities and their interplay (Ball and Romer 1990); and to the consequences of (potentially inappropriate or constrained) monetary policy (e.g., Friedman and Schwartz 1971; Eggertsson and Woodford 2003; Farhi and Werning 2013).”
Pecuniary Externalities in Economies with Financial Frictions (2016, neutral): “See e.g. Farhi and Werning (2016), Korinek and Simsek (2016) and Schmitt-Grohé and Uribe (2016).”
How Does Credit Supply Expansion Affect the Real Economy? The Productive Capacity and Household Demand Channels (2020, neutral): “, Schmitt-Grohé and Uribe (2016), Korinek and Simsek (2016), and Farhi and Werning (2015)). The results from the 1980s are consistent with this view. In particular, states more exposed to the stronger credit supply expansion experienced a more amplified business cycle. Growth in employment, GDP, hou”
Macroprudential Regulation versus mopping up after the crash (2020, neutral): “…(2012), He and Kondor (2016), D´avila and Korinek (2018) and Korinek (2018) for papers that motivate macroprudential intervention on the basis of pecuniary externalities, or Farhi and Werning (2016, 2017) and Korinek and Simsek (2016) for a motivation on the basis of aggregate demand externalities.”
Are Capital Inflows Expansionary or Contractionary? Theory, Policy Implications, and Some Evidence (2015, neutral): “Mundell (1963), Fleming (1962), and Dornbusch (1976).”
Macroprudential Policy, Countercyclical Bank Capital Buffers, and Credit Supply: Evidence from the Spanish Dynamic Provisioning Experiments (2017, neutral): “…also stem from firms’ agency frictions as in Bernanke and Gertler (1989), Kiyotaki and Moore (1997), Lorenzoni (2008), Jeanne and Korinek (2012), Farhi and Werning (2014) and Korinek and Simsek (2016), though these models can also be interpreted as dealing with banks with agency problems in…”