Working Paper: NBER ID: w9321
Authors: Anna J. Schwartz
Abstract: It is crucial that central banks and regulatory authorities be aware of effects of asset price inflation on the stability of the financial system. Lending activity based on asset collateral during the boom is hazardous to the health of lenders when the boom collapses. One way that authorities can curb the distortion of lenders' portfolios during asset price booms is to have in place capital requirements that increase with the growth of credit extensions collateralized by assets whose prices have escalated. If financial institutions avoid this pitfall, their soundness will not be impaired when assets backing loans fall in value. Rather than trying to gauge the effects of asset prices on core inflation, central banks may be better advised to be alert to the weakening of financial balance sheets in the aftermath of a fall in value of asset collateral backing loans.
Keywords: No keywords provided
JEL Codes: E5; E6; G2; N1; N2
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Asset price inflation (E31) | Hazardous lending practices (G21) |
| Hazardous lending practices (G21) | Weakening of financial institutions (F65) |
| Asset price inflation (E31) | Weakening of financial institutions (F65) |
| Monetary policy (E52) | Asset price inflation (E31) |
| Monetary policy (E52) | Deterioration of financial balance sheets (F65) |
| Asset prices collapse (G19) | Weakening of financial institutions (F65) |