Financial Shocks, Loan Loss Provisions and Macroeconomic Stability

Tayler, William John and Zilberman, Roy (2014) Financial Shocks, Loan Loss Provisions and Macroeconomic Stability. Working Paper. Lancaster University, Department of Economics, Lancaster.

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Abstract

This paper studies the interactions between loan loss provisions, business cycles and monetary policy in a New Keynesian model featuring a credit cost channel and endogenous credit default risk. We show that an incurred-loss specific provisioning system induces financial accelerator mechanisms, and generates financial, price and macroeconomic instability. Dynamic provisioning regimes, covering for expected losses over the whole business cycle, significantly improve welfare, and furthermore moderate the (otherwise optimal) anti-inflationary stance in the monetary policy rule. Optimal policy in response to financial shocks calls for a combination of macroprudential dynamic provisioning and conventional monetary policy rules, which exclude financial stability targets.

Item Type:
Monograph (Working Paper)
Subjects:
ID Code:
80713
Deposited By:
Deposited On:
12 Feb 2018 12:28
Refereed?:
No
Published?:
Published
Last Modified:
19 Sep 2020 00:19