A Quantitative Model of International Lending of Last Resort
47 Pages Posted: 18 Jul 2016 Last revised: 10 Jan 2020
Date Written: December 2019
We analyze banking crises and lending of last resort (LOLR) in a quantitative model of financial frictions with bank defaults. LOLR policies generate a tradeoff between financial fragility (due to more highly leveraged banks) and milder crises since the policies are effective once in a crisis. In the calibrated model, the crisis mitigation effect dominates the moral hazard problem and the economy is better off having access to a lender of last resort. We characterize the conditions under which pools of small economies can be sustainable LOLRs. In addition, we assess the ability of China - a country with ample reserves - to be a sustainable international LOLR.
Keywords: Banking Crises, China, Financial Frictions, Lender of Last Resort
JEL Classification: E4, E5, F3, G2
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