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The Volatility Costs of Procyclical Lending Standards: An Assessment Using a Dsge Model
Author: Ms. Silvia Sgherri and Bertrand Gruss
Series:
IMF Working Papers
Volume/Issue:
Volume 2009: Issue 035
Language:
English
Publication Date:
01 Mar 2009
DOI:
https://doi.org/10.5089/9781451871821.001
ISBN:
9781451871821
ISSN:
1018-5941
Pages:
37
Keywords:
WP; business cycle; Credit Cycles; Collateral Constraints; DSGE Models.; equity price; LTV ratio; lending standard; Home economy; equity premium; credit squeeze; Stocks; Credit; Consumption; Collateral; Asset prices; Western Europe; Baltics
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IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.
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The ongoing financial turmoil has triggered a lively debate on ways of containing systemic risk and lessening the likelihood of boom-and-bust episodes in credit markets. Particularly, it has been argued that banking regulation might attenuate procyclicality in lending standards by affecting the behavior of banks’ capital buffers. This paper uses a two-country DSGE model with financial frictions to illustrate how procyclicality in borrowing limits reinforces the “overreaction” of asset prices to shocks described by Aiyagari and Gertler (1999), and to quantify the stabilization gains from policies aimed at smoothing cyclical swings in credit conditions. Results suggest that, in financially constrained economies, the ensuing volatility reduction in equity prices, investment, and external imbalances would be sizable. In the presence of cross-border spillovers, gains would be even higher.
Cover IMF Working Papers
IMF Working Papers
ISSN:
1018-5941
Publisher:
International Monetary Fund