The Financial (In)Stability Real Interest Rate, R**
24 Pages Posted: 9 Nov 2020
Date Written: November 2020
We introduce the concept of a financial stability real interest rate using a macroeconomic banking model with an occasionally binding financing constraint, as in Gertler and Kiyotaki (2010). The financial stability interest rate, r**, is the threshold interest rate that triggers the constraint being binding. Increasing imbalances in the financial sector, measured by an increase in leverage, are accompanied by a lower threshold that could trigger financial instability events. We also construct a theoretical implied financial conditions index and show how it is related to the gap between the natural and financial stability interest rates.
Keywords: r**, financial crises, financial stability, occasionally binding credit constraint
JEL Classification: E4, E5, G0
Suggested Citation: Suggested Citation