Bank Capital Regulation, the Lending Channel and Business Cycles

Longmei Zhang

57 citations0/0 files storedRePEc: Research Papers in Economics

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Banking stability, regulation, efficiency Monetary Policy and Economic Impact Economic theories and models

Abstract

This paper develops a Dynamic Stochastic General Equilibrium (DSGE) model to study how the instability of the banking sector can amplify and propagate business cycles. The model builds on Bernanke, Gertler and Gilchrist (BGG) (1999), who consider credit demand friction due to agency cost, but it deviates from BGG in that financial intermediaries have to share aggregate risk with entrepreneurs, and therefore bear uncertainty in their loan portfolios. Unexpected aggregate shocks will drive loan default rate away from expected, and have an impact on both firm and bank's balance sheet via the financial contract. Low bank capital position can create strong credit supply contraction, and have a significant effect on business cycle dynamics.

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References

1983Bank Runs, Deposit Insurance, and Liquidity 1983Staggered prices in a utility-maximizing framework 1998The Financial Accelerator in a Quantitative Business Cycle Framework 1988Agency Costs, Net Worth, And Business Fluctuations 1979Optimal contracts and competitive markets with costly state verification 1998Income and Wealth Heterogeneity in the Macroeconomy 2011Capital regulation, risk-taking and monetary policy: A missing link in the transmission mechanism?1985Incentive-Compatible Debt Contracts: The One-Period Problem

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