Financial Crises and Macro-Prudential Policies

49 Pages Posted: 25 Apr 2011

See all articles by Gianluca Benigno

Gianluca Benigno

London School of Economics & Political Science (LSE) - Department of Economics; Federal Reserve Bank of New York

Huigang Chen

International Monetary Fund (IMF)

Chris Otrok

University of Missouri; Federal Reserve Banks - Federal Reserve Bank of St. Louis

Alessandro Rebucci

Johns Hopkins University - Carey Business School; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)

Eric Young

Inter-American Development Bank (IDB)

Multiple version iconThere are 2 versions of this paper

Date Written: February 2011

Abstract

Stochastic general equilibrium models of small open economies with occasionally binding financial frictions are capable of mimicking both the business cycles and the crisis events associated with the sudden stop in access to credit markets (Mendoza, 2010). This paper studies the inefficiencies associated with borrowing decisions in a two-sector small open production economy, finding that this economy is much more likely to display under-borrowing rather than over-borrowing in normal times. As a result, macro-prudential policies (e. g, Tobin taxes or economy-wide controls on capital inflows) are costly in welfare terms. Moreover, macro-prudential policies aimed at minimizing the probability of the crisis event might be welfare-reducing in production economies. The analysis shows that there is a much larger scope for welfare gains from policy interventions during financial crises. That is to say that, ex post or crisis-management policies dominate ex ante or macro-prudential ones.

Suggested Citation

Benigno, Gianluca and Benigno, Gianluca and Chen, Huigang and Otrok, Christopher and Rebucci, Alessandro and Young, Eric, Financial Crises and Macro-Prudential Policies (February 2011). IDB Working Paper No. 83, Available at SSRN: https://ssrn.com/abstract=1818762 or http://dx.doi.org/10.2139/ssrn.1818762

Gianluca Benigno

London School of Economics & Political Science (LSE) - Department of Economics ( email )

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Federal Reserve Bank of New York ( email )

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Huigang Chen

International Monetary Fund (IMF) ( email )

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Christopher Otrok

University of Missouri ( email )

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Alessandro Rebucci

Johns Hopkins University - Carey Business School ( email )

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National Bureau of Economic Research (NBER) ( email )

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Centre for Economic Policy Research (CEPR) ( email )

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Eric Young

Inter-American Development Bank (IDB)

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