Financial Stability and Monetary Policy - A Framework

28 Pages Posted: 11 May 2007

See all articles by Gerhard Illing

Gerhard Illing

Ludwig Maximilian University of Munich (LMU) - Faculty of Economics; CESifo (Center for Economic Studies and Ifo Institute)

Date Written: April 2007

Abstract

The paper presents a stylised framework to analyse conditions under which monetary policy contributes to amplified movements in the housing market. Extending work by Hyun Shin (2005), the paper analyses self enforcing feedback mechanisms resulting in amplifier effects in a credit constrained economy. The paper characterizes conditions for asymmetric effects, causing systemic crises. By injecting liquidity, monetary policy can prevent a meltdown. Anticipating such a response, private agents are encouraged to take higher risks. Provision of liquidity works as a public good, but it may create potential conflicts with other policy objectives and may give incentives to build up leverage with a high systemic exposure to small probability events.

JEL Classification: E44, G18

Suggested Citation

Illing, Gerhard, Financial Stability and Monetary Policy - A Framework (April 2007). CESifo Working Paper Series No. 1971. Available at SSRN: https://ssrn.com/abstract=985275

Gerhard Illing (Contact Author)

Ludwig Maximilian University of Munich (LMU) - Faculty of Economics ( email )

Ludwigstrasse 28
Munich, D-80539
Germany

HOME PAGE: http://www.sfm.vwl.uni-muenchen.de/

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

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