This paper studies the role of credit-supply factors in business cycle fluctuations. For this purpose, we introduce an imperfectly competitive banking sector into a DSGE model with financial frictions. Banks issue collateralized loans to both households and firms, obtain funding via deposits and accumulate capital from retained earnings. Margins charged on loans depend on bank capital-to-assets ratios and on the degree of interest rate stickiness. Bank balance-sheet constraints establish a link between the business cycle, which affects bank profits and thus capital, and the supply and cost of loans. The model is estimated with Bayesian techniques using data for the euro area. The analysis delivers the following results. First, the existence of a banking sector partially attenuates the effects of demand shocks, while it helps propagate supply shocks. Second, shocks originating in the banking sector explain the largest share of the fall of output in 2008 in the euro area, while macroeconomic shocks played a limited role. Third, an unexpected destruction of bank capital has a substantial impact on the real economy and particularly on investment.

Credit and Banking in a DSGE Model of the Euro Area

This paper describes the correlations between inequality and the growth rates in cross-country data. Using non-parametric methods, we show that the growth rate is an inverted U-shaped function of net changes in inequality: Changes in inequality (in any direction) are associated with reduced growth in the next period. The estimated relationship is robust to variations in control variables and estimation methods. This inverted U-curve is consistent with a simple political economy model, although, as we point out, efforts to interpret this model causally run into difficult identification problems. We show that this non-linearity is sufficient to explain why previous estimates of the relationship between the level of inequality and growth are so different from one another.

Inequality and Growth: What Can the Data Say?

This review article tries to answer four questions: (i) what are the stylized facts about uncertainty over time; (ii) why does uncertainty vary; (iii) do fluctuations in uncertainty matter; and (iv) did higher uncertainty worsen the Great Recession of 2007-2009? On the first question both macro and micro uncertainty appears to rise sharply in recessions. On the second question the types of exogenous shocks like wars, financial panics and oil price jumps that cause recessions appear to directly increase uncertainty, and uncertainty also appears to endogenously rise further during recessions. On the third question, the evidence suggests uncertainty is damaging for short-run investment and hiring, but there is some evidence it may stimulate longer-run innovation. Finally, in terms of the Great Recession, the large jump in uncertainty in 2008 potentially accounted for about one third of the drop in GDP.

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Fluctuations in Uncertainty

This paper studies the role of credit-supply factors in business cycle ∞uctuations. To this end, an imperfectly competitive banking sector is introduced into a DGSE model with flnancial frictions. Banks issue loans to both households and flrms, obtain funding via deposits and accumulate capital out of retained earnings. Margins charged on loans depend on bank capital-to-asset ratio and on the degree of interest rate stickiness. Bank balance-sheet constraints establish a link between the business cycle, which afiects bank proflts and thus capital, and the supply and the cost of loans. The model is estimated with Bayesian techniques using data for the euro area. We show that shocks originating in the banking sector explain the largest fraction of the fall of output in 2008 in the euro area, while macroeconomic shocks played a smaller role. We also flnd that an unexpected reduction in bank capital can have a substantial impact on the real economy and particularly on investment. JEL: E30; E32; E43; E51; E52;

/pdf/credit-and-banking-in-a-dsge-model-of-the-euro-area-o8cxnpx1ou.pdf

Credit and banking in a DSGE model of the euro area

The sustained rise in US current account deficits, the stubborn decline in long- run real rates, and the rise in US assets in global portfolios appear as anoma - lies from the perspective of conventional models. This paper rationalizes these facts as an equilibrium outcome when different regions of the world differ in their capacity to generate financial assets from real investments. Extensions of the basic model generate exchange rate and foreign direct investment excess returns broadly consistent with the recent trends in these variables. The frame - work is flexible enough to shed light on a range of scenarios in a global equilib - rium environment. (JEL: E44, F21, F31, F32)

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An Equilibrium Model of "Global Imbalances" and Low Interest Rates

http://www.lforni.it/ResearchAndPublications/Papers/5-paper_fiscal_23july08.pdf

The macroeconomics of fiscal consolidations in euro area countries

he paper assesses the effects of increasing competition in the service sector in Italy which, based on cross-country comparisons, is the OECD country with the highest markups in non-manufacturing industries. We propose a two-region (Italy and the rest of the euro area) dynamic general equilibrium model allowing for monopolistic competition in the labor, manufacturing and service markets. We then use the model to simulate the macroeconomic and spillover effects of increasing the degree of competition in the Italian services sector. Our results indicate that reducing the service sector markups to the levels of the rest of the euro area increases in the long run Italian GDP by 11 percent and welfare (measured in terms of steady state consumption equivalents) by about 3.5 percent. Half of the GDP increase would be realized in the first three years. The spillover effects to the rest of the euro area are limited.

Macroeconomic Effects of Greater Competition in the Service Sector: The Case of Italy

This paper documents the existence of a significant forecast error on crude oil futures. We interpret it as a risk premium, which, in part, could have been explained by means of a real-time US business cycle indicator, such as the degree of capacity utilization in manufacturing. This result is robust to the specification of the estimating equation and to the considered business cycle indicator. An out-of-the-sample prediction exercise reveals that futures adjusted to take into account this time-varying component produce significantly better forecasts than those of unadjusted futures, of futures adjusted for the average forecast error and of the random walk, particularly at horizons of more than 6 months.

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Risk-Adjusted Forecasts of Oil Prices

We quantitatively assess the macroeconomic effects of country-specific supply-side reforms in the euro area by simulating EAGLE, a multi-country dynamic general equilibrium model. We consider reforms in the labor and services markets of Germany (or, alternatively, Portugal) and the rest of the euro area. Our main results are as follows. First, there are benefits from implementing unilateral structural reforms. A reduction of markup by 15 percentage points in the German (Portuguese) labor and services market would induce an increase in the long-run German (Portuguese) output equal to 8.8 (7.8) percent. As reforms are implemented gradually over a period of five years, output would smoothly reach its new long-run level in seven years. Second, cross-country coordination of reforms would add extra benefits to each region in the euro area, by limiting the deterioration of relative prices and purchasing power that a country faces when implementing reforms unilaterally. This is true in particular for a small and open economy such as Portugal. Specifically, in the long run German output would increase by 9.2 percent, Portuguese output by 8.6 percent. Third, cross-country coordination would make the macroeconomic performance of the different regions belonging to the euro area more homogeneous, both in terms of price competitiveness and real activity. Overall, our results suggest that reforms implemented apart by each country in the euro area produce positive effects, cross-country coordination produces larger and more evenly distributed (positive) effects.

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Structural Reforms and Macroeconomic Performance in the Euro Area Countries: A Model-Based Assessment

Building on the New Area Wide Model, we develop a 4-region macroeconomic model of the euro area and the world economy. The model (EAGLE, Euro Area and Global Economy model) is microfounded and designed for conducting quantitative policy analysis of macroeconomic interdependence across regions belonging to the euro area and between euro area regions and the world economy. Simulation analysis shows the transmission mechanism of region-specific or common shocks, originating in the euro area and abroad. JEL Classification: C53, E32, E52, F47

Massimiliano Pisani

Papers

The macroeconomics of fiscal consolidations in euro area countries

Macroeconomic Effects of Greater Competition in the Service Sector: The Case of Italy

Risk-Adjusted Forecasts of Oil Prices

Structural Reforms and Macroeconomic Performance in the Euro Area Countries: A Model-Based Assessment

The EAGLE. A model for policy analysis of macroeconomic interdependence in the euro area