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The Volatility Costs of Procyclical Lending Standards:An Assessment Using a DSGE Model

The Volatility Costs of Procyclical Lending Standards:An Assessment Using a DSGE Model by Silvia Sgherri
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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.
International Monetary Fund; March 2009
37 pages; ISBN 9781452740997
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Title: The Volatility Costs of Procyclical Lending Standards:An Assessment Using a DSGE Model
Author: Silvia Sgherri; Bertrand Gruss
 
ISBNs
1451916183
9781451871821
9781451916188
9781452740997