leverage restrictions in a business cycle model.pdf

Leverage Restrictions in a Business Cycle Model Lawrence J. Christiano Daisuke Ikeda Norges Bank, Oslo, June 16th - 19th 2014. Background • Increasing interest in the following sorts of questions: — What restrictions should be placed on bank leverage? — How should those restrictions be varied over the business cycle? — How should monetary policy react to bank leverage, if at all? What We Do • Modify a standard medium-sized DSGE model to include a banking sector. Assets Liabilities Loans and other securities Deposits Banker net worth • Job of bankers is to identify and finance good investment projects. — doing this requires exerting costly e§ort. • Agency problem between bank and its creditors: — banker e§ort is not observable. • Consequence: leverage restrictions on banks generate a very substantial welfare gain in steady state. • Explore some of the dynamic implications of the models. Outline • Model — first, without leverage restriction • observable e§ort benchmark • unobservable case — then, with leverage restriction • Steady state properties of leverage restrictions • Implications for dynamic e§ects of shocks StandardModel Firms L K Labor market Marketfor PhysicalCapital household StandardModel Firm