The Role of Macroeconomic Policies in the Global Crisis

35 Pages Posted: 8 Dec 2010

Date Written: July 6, 2010

Abstract

This paper argues that the lack of timely and decisive policy action to correct domestic and external imbalances contributed crucially to the build-up of financial excesses that led to the financial crisis and the Great Recession. We focus on 2002-07 and perform a number of counterfactual simulations to investigate two central elements of the story, namely: (a) an over-expansionary US monetary policy and the absence of effective macro-prudential supervision, which permitted a prolonged expansion of debt-financed consumer spending; (b) the decision of China and other emerging countries to pursue an export-led growth strategy supported by pegging their currencies to the US dollar, resulting in a huge build-up of their official reserves, in conjunction with sluggish domestic demand in surplus advanced economies characterized by low potential output growth. The results of the simulations lend support to the view that if substantial, globally coordinated demand rebalancing had been undertaken in a timely manner, the macroeconomic and financial imbalances would not have accumulated to the extent that they did and the financial turmoil might have had less drastic global consequences.

Keywords: global imbalances, financial crisis, monetary policy, macroprudential regulation, structural reforms

JEL Classification: E52, F42, F43, F47, G15

Suggested Citation

Catte, Pietro and Cova, Pietro and Pagano, Patrizio and Visco, Ignazio, The Role of Macroeconomic Policies in the Global Crisis (July 6, 2010). Bank of Italy Occasional Paper No. 69. Available at SSRN: https://ssrn.com/abstract=1721429 or http://dx.doi.org/10.2139/ssrn.1721429

Pietro Catte

Bank of Italy ( email )

Via Nazionale 91
Rome, 00184
Italy

Pietro Cova

Bank of Italy ( email )

Via Nazionale 91
Rome, 00184
Italy

Patrizio Pagano (Contact Author)

Bank of Italy ( email )

Via Nazionale 91
Rome, 00184
Italy

Ignazio Visco

Bank of Italy ( email )

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