Debt Deflation Effects of Monetary Policy

Tsomocos, Dimitrios, Lin, Li and Vardoulakis, Alexandros (2015) Debt Deflation Effects of Monetary Policy. Journal of Financial Stability, 21. pp. 81-94.

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Abstract

This paper assesses the role that monetary policy plays in the decision to default using a General Equilibrium model with collateralized loans, trade in fiat money and production. Longterm nominal loans are backed by collateral, the value of which depends on monetary policy. The decision to default is endogenous and depends on the relative value of the collateral to face value of the loan. Default results in foreclosure, higher borrowing costs, inefficient investment and a decrease in total output. We show that pre-crisis contractionary monetary policy interacts with Fisherian debt-deflation dynamics and can increase the probability that a crisis occurs.

Item Type: Article
Keywords: Default, Collateral, Debt-deflation, finance
Subject(s): Finance
Date Deposited: 04 Nov 2015 17:42
Date of author-version deposit: 9 March 2015
Last Modified: 28 Apr 2017 02:38
Funders: not applicable
URI: http://eureka.sbs.ox.ac.uk/id/eprint/5818

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