Working Paper: NBER ID: w19704
Authors: Javier Bianchi; Enrique G. Mendoza
Abstract: Collateral constraints widely used in models of financial crises feature a pecuniary externality: Agents do not internalize how borrowing decisions taken in “good times” affect collateral prices during a crisis. We show that agents in a competitive equilibrium borrow more than a financial regulator who internalizes this externality. We also find, however, that under commitment the regulator's plans are time-inconsistent, and hence focus on studying optimal, time-consistent policy without commitment. This policy features a state-contingent macroprudential debt tax that is strictly positive at date t if a crisis has positive probability at t + 1. Quantitatively, this policy reduces sharply the frequency and magnitude of crises, removes fat tails from the distribution of returns, and increases social welfare. In contrast, constant debt taxes are ineffective and can be welfare-reducing, while an optimized “macroprudential Taylor rule” is effective but less so than the optimal policy.
Keywords: No keywords provided
JEL Codes: E0; F0; G0
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| macroprudential debt tax (H69) | frequency of financial crises (G01) |
| macroprudential debt tax (H69) | magnitude of financial crises (G01) |
| optimal time-consistent macroprudential policy (E61) | social welfare (I38) |
| lack of internalization of externalities (D62) | overborrowing (H74) |
| inability to commit (D91) | lower future consumption (D15) |
| inability to commit (D91) | prop up asset prices when collateral constraint binds (E44) |