IMF Working Papers

Systemic Risk: A New Trade-off for Monetary Policy?

By Stefan Laseen, Andrea Pescatori, Jarkko Turunen

June 30, 2015

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Stefan Laseen, Andrea Pescatori, and Jarkko Turunen. Systemic Risk: A New Trade-off for Monetary Policy?, (USA: International Monetary Fund, 2015) accessed November 8, 2024
Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

We introduce time-varying systemic risk in an otherwise standard New-Keynesian model to study whether a simple leaning-against-the-wind policy can reduce systemic risk and improve welfare. We find that an unexpected increase in policy rates reduces output, inflation, and asset prices without fundamentally mitigating financial risks. We also find that while a systematic monetary policy reaction can improve welfare, it is too simplistic: (1) it is highly sensitive to parameters of the model and (2) is detrimental in the presence of falling asset prices. Macroprudential policy, similar to a countercyclical capital requirement, is more robust and leads to higher welfare gains.

Subject: Asset prices, Economic sectors, Financial institutions, Financial sector, Inflation, Nonbank financial institutions, Prices, Stocks

Keywords: Asset prices, Deviations from fundamentals, DSGE models, Endogenous Financial Risk, Equity constraint, Equity constraint bind, Financial sector, Global, Inflation, Inflation index, Monetary policy, Monetary policy behavior, Monetary policy reaction, Monetary policy shock, Monetary policy surprise, Nonbank financial institutions, Non-Linear Dynamics, Policy Evaluation, Price inflation index, Prices-low return, Stocks, Surprise monetary policy tightening, Utility function, WP

Publication Details

  • Pages:

    46

  • Volume:

    ---

  • DOI:

    ---

  • Issue:

    ---

  • Series:

    Working Paper No. 2015/142

  • Stock No:

    WPIEA2015142

  • ISBN:

    9781513579245

  • ISSN:

    1018-5941

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