How far should capital requirements be raised in order to ensure a strong and resilient banking system without imposing undue costs on the real economy? Capital requirement increases make banks safer and are beneficial in the long run but also entail transition costs because their imposition...

This paper examines the robustness of the Kiyotaki-Moore collateral amplification mechanism to the existence of complete markets for aggregate risk. We show that, when borrowers can hedge against aggregate shocks at fair prices, the volatility of endogenous variables becomes identical to the...

We develop a dynamic general equilibrium model for the positive and normative analysis of macroprudential policies. Optimizing financial intermediaries allocate their scarce net worth together with funds raised from saving households across two lending activities, mortgage and corporate lending....

We examine the optimal size and composition of banks’ total loss absorbing capacity (TLAC). Optimal size is driven by the trade-off between providing liquidity services through deposits and minimizing deadweight default costs. Optimal composition (equity vs. bail-in debt) is driven by the...

The ECB’s price stability mandate has been defined by the Treaty. But the Treaty has not spelled out what price stability precisely means. To make the mandate operational, the Governing Council has provided a quantitative definition in 1998 and a clarification in 2003. The landscape has...

Since the European Central Bank’s (ECB’s) 2003 strategy review, the importance of macro-financial amplification channels for monetary policy has increasingly gained recognition. This paper takes stock of this evolution and discusses the desirability of further incremental enhancements in the...

This paper studies the interaction of government debt and financial markets. Both markets are fragile: excessively responsive to fundamentals and prone to strategic uncertainty. This interaction, termed a ‘diabolic loop', is driven by government choice to bail out banks and the resulting...

The volatile data for inflation, output, and interest rates in the United Kingdom prior to the 1990s, and the relative macroeconomic stability associated with inflation targeting, provide a rich basis for discriminating between rival explanations for the outbreak of stagflation. Alternative...

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...

This paper provides a brief survey of the role of financial frictions in the monetary transmission mechanism. After noting some of the key stylised facts that any model of the transmission mechanism must be consistent with, we discuss both the classical interest rate channel and the credit and...