Bubbles, Bank Credit and Macroprudential Policies

50 Pages Posted: 18 Jul 2013

See all articles by Alexis Derviz

Alexis Derviz

Czech National Bank (CNB) - Monetary Department

Date Written: May 22, 2013

Abstract

We explore the ability of a macro-prudential policy instrument to dampen the consequences of equity mispricing (a bubble) and the correction thereof (the bubble bursting), as well as the consequences for real activity in a production economy. In our model, producers are financed by both bank debt and equity, and face a mix of systematic and idiosyncratic uncertainty. Positive/negative bubbles arise when prior public beliefs about the aggregate productivity of producers (business sentiment) become biased upwards/downwards. Economic activity in equilibrium is influenced by the bubble size. The presence of macro-prudential policy is represented by a convex dependence of bank capital requirements on the quantity of uncollateralized credit. We find that this kind of policy is more successful in suppressing equity price swings than moderating output fluctuations. Economic activity declines with the introduction of a macro-prudential instrument in this model, so that the ultimate welfare contribution of the latter would depend on the aggregate default costs.

Keywords: bank, credit, asset price, bubble, macroprudential policy

JEL Classification: G01, G21, G12, E22, D82

Suggested Citation

Derviz, Alexis, Bubbles, Bank Credit and Macroprudential Policies (May 22, 2013). ECB Working Paper No. 1551, Available at SSRN: https://ssrn.com/abstract=2268504 or http://dx.doi.org/10.2139/ssrn.2268504

Alexis Derviz (Contact Author)

Czech National Bank (CNB) - Monetary Department ( email )

Na Prikope 28
CZ-11503 Praha 1
Czech Republic

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