The Financial (In)Stability Real Interest Rate, R**

Abstract

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. We discuss r** and its dynamics and show that persistently low real rates induce an increase in financial vulnerabilities and a consequent decline in the level of r**. We also provide a measure of r** for the U.S. economy and discuss its evolution over the past fifty years, highlighting that during periods of financial stress that are associated with a decline in r** , the real rate tracks r**—a feature of monetary policy known as “Greenspan’s put.”

Keywords: r**, financial crises, financial stability, occasionally binding credit constraint

JEL Classification: E4, E5, G0