A Theory of Macroprudential Policies in the Presence of Nominal Rigidities
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Author(s)
Werning, Iván
Farhi, Emmanuel
Werning, Ivan
Date Issued
June 2015
Journal
Econometrica
Publisher
The Econometric Society
Citation
Farhi, Emmanuel, and Iván Werning. “A Theory of Macroprudential Policies in the Presence of Nominal Rigidities.” Econometrica 84, no. 5 (2016): 1645–1704.
Version
Original manuscript
Abstract
We propose a theory of monetary policy and macroprudential interventions in financial markets. We focus on economies with nominal rigidities in goods and labor markets and subject to constraints on monetary policy, such as the zero lower bound or fixed exchange rates. We identify an aggregate demand externality that can be corrected by macroprudential interventions in financial markets. Ex post, the distribution of wealth across agents affects aggregate demand and output. Ex ante, however, these effects are not internalized in private financial decisions. We provide a simple formula for the required financial interventions that depends on a small number of measurable sufficient statistics. We also characterize optimal monetary policy. We extend our framework to incorporate pecuniary externalities, providing a unified approach to both externalities. Finally, we provide a number of applications which illustrate the relevance of our theory.
MIT Department
Massachusetts Institute of Technology. Department of Economics
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Creative Commons Attribution-Noncommercial-Share Alike
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DOI of Published Version
https://doi.org/10.3982/ECTA11883
