This paper studies optimal financial policy in a world where the financial sector can become excessively optimistic. I decompose the welfare effects of bank capital regulation to demonstrate the effects of exuberance and its interaction with incentive problems in banking. The optimal policy...

This paper studies the effects of government guarantees on the interconnection between banking and sovereign debt crises in a framework where both the banks and the government are fragile and the credibility and feasibility of the guarantees are determined endogenously. The analysis delivers...

I propose a dynamic general equilibrium model in which strategic interactions between banks and depositors may lead to endogenous bank fragility and slow recovery from crises. When banks' investment decisions are not contractible, depositors form expectations about bank risk-taking and demand a...

This paper studies the interaction of government debt and financial markets. This interaction, termed a "diabolic loop", is driven by government choice to bail out banks and the resulting incentives for banks to hold government debt rather than self-insure through equity buffers. We highlight...

Identifying fiscal multipliers is usually constrained by the absence of a counterfactual scenario. Our new data set allows overcoming this problem by making use of the fact that recommendations under the EU's excessive deficit procedure (EDP) provide both a baseline no-policy-change scenario and...

The financial crisis of 2008/2009 has left European economies with a sizeable public debt stock bringing back the question what factors help to reduce these fiscal imbalances. Using data for the period 1985-2009 this paper identifies factors determining major public debt reductions. On average,...