Financial Frictions and the Macroeconomy
By Lawrence J. Christiano
The course will take the form of three
hours of lectures in the mornings and two hours of lectures/computer exercises
in the afternoons. The morning lectures will concentrate on financial frictions
in DSGE models. The afternoon sessions will use Dynare
to solve, simulate and estimate DSGE models.
Lectures and
Handouts
Introductory remarks
1)
Introducing financial frictions
into the New Keynesian DSGE Model.
a)
Microfoundations for
the Costly State Verification (CSV) approach.
b)
Integrating CSV
into an NK model and the results of Bayesian estimation of the model using US
and EA data.
i)
The model
ii)
The importance of risk shocks.
iii) The
response of monetary policy to an increase in interest rate spreads.
c) Very
brief discussion of extending CSV to risky banking (discussion based on papers
by Zeng and
by Hirakata, Sudo and
Ueda.)
2)
Financial frictions in the intermediation
sector, exposited in two-period settings (sections 3, 4, 5 of reading, handout).
a)
Two approaches based on moral hazard.
i)
Two-period
financial friction model of Gertler-Kiyotaki, (section
3)
ii)
Hidden action (section 4)
b) Adverse selection (section 5).
3) Implications of the zero lower bound on the nominal rate of interest (manuscript).
a) The deflation spiral, the government spending multiplier.
b) Quantitative
analysis of the role of the zero bound in the dynamics of US data, 2008 and
2009.
4) Monetary
policy and asset prices. (Background
manuscript)
a) News
and inflation targeting.
b) Using Ramsey optimal policy as a benchmark for evaluating a policy rule.
5)
Introducing unemployment with imperfect
labor market insurance into the NK Model (we will most likely not get to this section).
a)
Revisiting Lucas’ cost of business cycles.
b)
Using unemployment data to estimate the output
gap (see section 3.3,
3.4 of handbook chapter).
Afternoon Sessions
Apart from
giving students hands-on experience with the quantitative analysis of models,
the two homework exercises allow us to discuss the following topics:
a)
Bayesian
estimation of DSGE models.
b)
The
HP filter as a way to estimate the output gap.
2)
The
Taylor principle (see section 3.1 of handbook chapter).
a)
The
rationale for the principle in the standard NK model.
b)
Circumstances
when things can go awry with the Taylor principle:
i)
An
important working capital channel.
ii) News shocks.
3)
The timeless perspective in Ramsey-optimal monetary policy (handout).
Introduction
to model solving with Dynare using the real business
cycle model.
(A little background on linearization as a solution
method.)
Assignment #9
This assignment
works heavily with the Clarida-Gali-Gertler model,
which is developed here (for a more
detailed discussion see this
and this).
The
text for this assignment, as well as all the necessary software, is included in
this zip file.
Background readings
The main reference for New
Keynesian models is my chapter with Trabandt and Walentin, in the just-released
Handbook of Monetary Economics, edited by Friedman and Woodford.
The primary reference for financial frictions is Christiano and Daisuke, Government Policy, Credit
Markets and Economic Activity.
Other
references on financial frictions:
Bernanke, Gertler and Gilchrist’s classic 1999 paper.
Christiano, Motto, Rostagno (2003): Using the BGG model to analyze the cause of the US Great Depression, and the reason it lasted so long.
Christiano, Motto, Rostagno (2009): Using the BGG model to understand the causes of economic fluctuations in the EA and the US.
Christiano, Trabandt and Walentin (2009): Financial and labor market frictions in a small open economy model of Sweden. (Handout)
Government spending and the zero bound:
Christiano, Eichenbaum and Rebelo (2009) When is the Government Spending Multiplier Large?