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International Monetary Fund
The December 2015 IMF Research Bulletin features a sampling of key research from the IMF. The Research Summaries in this issue look at “The Impact of Deflation and Lowflation on Fiscal Aggregates (Nicolas End, Sampawende J.-A. Tapsoba, Gilbert Terrier, and Renaud Duplay); and “Oil Exporters at the Crossroads: It Is High Time to Diversify” (Reda Cherif and Fuad Hasanov). Mahvash Saeed Qureshi provides an overview of the fifth Lindau Meeting in Economics in “Meeting the Nobel Giants.” In the Q&A column on “Seven Questions on Financial Frictions and the Sources of the Business Cycle, Marzie Taheri Sanjani looks at the driving forces of the business cycle and macroeconomic models. The top-viewed articles in 2014 from the IMF Economic Review are highlighted, along with recent IMF Working Papers, Staff Discussion Notes, and IMF publications.
International Monetary Fund
This paper examines how durable goods and financial frictions shape the business cycle of a small open economy subject to shocks to trend and transitory shocks. In the data, nondurable consumption is not as volatile as income for both developed and emerging market economies. The simulation of the model implies that shocks to trend play a less important role than previously documented. Financial frictions improve the ability of the model to match some key business cycle properties of emerging economies. A countercyclical borrowing premium interacts with the nature of durable goods delivering highly volatile consumption and very countercyclical net exports.
Mr. Damiano Sandri and Mr. Fabian Valencia
We develop a dynamic stochastic general equilibrium model with financial frictions on both financial intermediaries and goods-producing firms. In this context, due to high leverage of financial intermediaries, balance sheet disruptions in the financial sector are particularly detrimental for aggregate output. We show that the welfare gains from recapitalizing the financial sector in response to large but rare net worth losses are as large as those from eliminating business cycle fluctuations. We also find that these gains are increasing in the size of the net worth loss, are larger when recapitalization funds are raised from the household rather than the real sector, and may increase with a reduction in financial intermediaries idiosyncratic risk.
Mr. Jan Vlcek and Mr. Scott Roger
This paper surveys dynamic stochastic general equilibrium models with financial frictions in use by central banks and discusses priorities for future development of such models for the purpose of monetary and financial stability analysis. It highlights the need to develop macrofinancial models which allow analysis of the macroeconomic effects of macroprudential policy tools and to evaluate elements of the Basel III reforms as a priority. The paper also reviews the main approaches to introducing financial frictions into general equilibrium models.
Marzie Taheri Sanjani
This paper estimates a New Keynesian DSGE model with an explicit financial intermediary sector. Having measures of financial stress, such as the spread between lending and borrowing, enables the model to capture the impact of the financial crisis in a more direct and efficient way. The model fits US post-war macroeconomic data well, and shows that financial shocks play a greater role in explaining the volatility of macroeconomic variables than marginal efficiency of investment (MEI) shocks.
Mr. Ludvig Söderling
This paper analyzes the determinants of credit cyclicality. It constructs a financial development index and studies whether it affects the amplitude of impulse responses to shocks to output, terms of trade, global liquidity, and global risk appetite. The paper uses both country-specific VARs for cross-country analyses and panel VARs to compare impulse responses between various country groupings. The study finds evidence that financial development-especially stronger creditor rights-can mitigate credit cyclicality, given that the response of credit to output or terms of trade shocks is stronger in countries with weaker financial systems.
Mr. Julian T Chow
Guyana’s residential real estate prices have been rising, particularly in the capital city Georgetown, following the discovery of oil in 2015. In line with the growing demand for housing, commercial banks’ housing loans have increased, prompting higher household debt. This paper presents two analyses which suggest that housing prices in Georgetown and banks’ lending to the housing sector appear to be in their early stages of growth. However, given the data limitations and caveats that underpin the analyses, the findings could also indicate early signals of possible risks. Further data collection would support surveillance and deeper studies. At the same time, enhancing prudential measures would help safeguard financial and macroeconomic stability. These include strengthening the monitoring of the housing market, bank lending practices and household debt, as well as fortifying the macroprudential framework, including with more effective toolkits for early intervention.
Luis Franjo, Nathalie Pouokam, and Francesco Turino
In this paper we build a model of occupational choice with informal production and progressive income taxation. We calibrate the model to the Brazilian economy to evaluate the impact of removing financial frictions on informality. We find that financial deepening leads to a drop in the size of the informal sector (from 37 percent to 22 percent of official GDP), to an increase in measured TFP (by 4 percent), to an increase in official GDP (by 27 percent), to a decrease in tax evasion (by 17 percent) and to an increase in fiscal revenues (by 15 percent). When assessing the response of this policy at different levels of financial development, we find a non-linear relationship between the credit-to-GDP ratio on the one hand, and either the size of the informal economy, or GDP per capita on the other hand. We test these features with cross-country data and find evidence in favor of both types of non-linearity. We also investigate changes in the income tax progressitivity as an alternative policy and find it to be more effective in countries with a medium to high level of financial markets development.