U.S. Business Cycles, Monetary Policy and the External Finance Premium

68 Pages Posted: 9 Dec 2013

See all articles by Enrique Martínez-García

Enrique Martínez-García

Federal Reserve Bank of Dallas - Research Department

Multiple version iconThere are 2 versions of this paper

Date Written: September 1, 2013

Abstract

I investigate a model of the U.S. economy with nominal rigidities and a financial accelerator mechanism à la Bernanke et al. (1999). I calculate total factor productivity and monetary policy deviations for the U.S. and quantitatively explore the ability of the model to account for the cyclical patterns of GDP (excluding government), investment, consumption, the share of hours worked, inflation and the quarterly interest rate spread between the Baa corporate bond yield and the 20-year Treasury bill rate during the Great Moderation. I show that the magnitude and cyclicality of the external finance premium depend nonlinearly on the degree of price stickiness (or lack thereof) in the Bernanke et al. (1999) model and on the specification of both the target Taylor (1993) rate for policy and the exogenous monetary shock process. The strong countercyclicality of the external finance premium induces substitution away from consumption and into investment in periods where output grows above its long-run trend as the premium tends to fall below its steady state and financing investment becomes temporarily cheaper. The less frequently prices change in this environment, the more accentuated the fluctuations of the external finance premium are and the more dominant they become on the dynamics of investment, hours worked and output. However, these features — the countercyclicality and large volatility of the spread — are counterfactual and appear to be a key impediment limiting the ability of the model to account for the U.S. data over the Great Moderation period.

Keywords: External Finance Premium, Financial Accelerator, Great Moderation

JEL Classification: E52, E58, G18, G28

Suggested Citation

Martinez-Garcia, Enrique, U.S. Business Cycles, Monetary Policy and the External Finance Premium (September 1, 2013). Available at SSRN: https://ssrn.com/abstract=2365066 or http://dx.doi.org/10.2139/ssrn.2365066

Enrique Martinez-Garcia (Contact Author)

Federal Reserve Bank of Dallas - Research Department ( email )

2200 North Pearl Street
PO Box 655906
Dallas, TX 75265-5906
United States
214-922-5262 (Phone)

HOME PAGE: http://sites.google.com/view/emgeconomics

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
31
Abstract Views
339
PlumX Metrics