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Financial (in)stability, supervision and liquidity injections: a dynamic general equilibrium approach

Numéro35
DateOctober 2008
AuteurGregory De Walque, Olivier Pierrard and Abdelaziz Rouabah
RésuméThis paper develops a dynamic stochastic general equilibrium model with interactions between an heterogeneous banking sector and other private agents. We introduce endogenous default probabilities for both firms and banks, and allow for  bank regulation and liquidity injection into the interbankmarket. Our aimis to understand the importance of supervisory and monetary authorities to restore financial stability. The model is calibrated against real data and used for simulations. We show that liquidity injections reduce financial instability but have ambiguous effects on output fluctuations. The model also confirms the partial equilibrium literature results on the procyclicality of Basel II.

Keywords: DSGE, Banking sector, Default risk, Supervision, Money

JEL classification: E13, E20, G21, G28

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