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Can Financial Innovation Help to Explain the Reduced Volatility of Economic Activity?

55 Pages Posted: 5 Jan 2006  

Karen E. Dynan

Harvard University; Peterson Institute for International Economics

Douglas W. Elmendorf

Harvard Kennedy School

Daniel E. Sichel

Wellesley College; NBER

Date Written: November 2005

Abstract

The stabilization of economic activity in the mid 1980s has received considerable attention. Research has focused primarily on the role played by milder economic shocks, improved inventory management, and better monetary policy. This paper explores another potential explanation: financial innovation. Examples of such innovation include developments in lending practices and loan markets that have enhanced the ability of households and firms to borrow and changes in government policy such as the demise of Regulation Q. We employ a variety of simple empirical techniques to identify links between the observed moderation in economic activity and the influence of financial innovation on consumer spending, housing investment, and business fixed investment. Our results suggest that financial innovation should be added to the list of likely contributors to the mid-1980s stabilization.

Keywords: Economic fluctuations, volatility, financial innovation, financial deregulation

Suggested Citation

Dynan, Karen E. and Elmendorf, Douglas W. and Sichel, Daniel E., Can Financial Innovation Help to Explain the Reduced Volatility of Economic Activity? (November 2005). FEDs Working Paper No. 2005-54. Available at SSRN: https://ssrn.com/abstract=873871 or http://dx.doi.org/10.2139/ssrn.873871

Karen E. Dynan

Harvard University ( email )

Littauer Center
Cambridge, MA 02138
United States

Peterson Institute for International Economics ( email )

1750 Massachusetts Avenue, NW
Washington, DC 20036
United States

HOME PAGE: http://https://piie.com/experts/senior-research-staff/karen-dynan

Douglas W. Elmendorf

Harvard Kennedy School ( email )

79 John F. Kennedy Street
Cambridge, MA 02138
United States

Daniel E. Sichel (Contact Author)

Wellesley College ( email )

106 Central St.
Wellesley, MA 02181
United States

NBER ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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