Essays on Fiscal and Macro-prudential Policies with Credit Market Frictions

Download or read book Essays on Fiscal and Macro-prudential Policies with Credit Market Frictions written by Sofia Kalantzi and published by . This book was released on 2016 with total page 224 pages. Available in PDF, EPUB and Kindle. Book excerpt: This dissertation focuses on how fiscal, and macro-prudential policies interact with financial market frictions. In particular, it addresses some of the key facts of the recent global financial crisis and provides an intuition of why different policies were implemented by many countries in order to mitigate the adverse effects of the financial crisis and how those policies are transmitted in the presence of financial market imperfections. This dissertation opens the discussion of the different welfare implications of alternative policies that seek to stabilize the economy as well as their different real effects in the economy. The dissertation consists of three main chapters. In the first chapter I document empirically a negative relationship between shocks to government spending and credit spreads. Using a SVAR methodology on US data, I show that after a positive shock to government spending, credit spreads drop up to 14 basis points. The analysis shows that it is in particular government investment that has a negative effect on the spreads as opposed to government consumption. Given this empirical evidence, in the second chapter, I examine the interaction between productivity-enhancing government spending and credit spreads. In the context of a costly state verification framework, increased borrowing to expand production increases the threshold productivity level below which firms choose to default, and thus, entails higher risk premium. However, when government spending contributes to aggregate production, the threshold level of default and, thus, the probability of default, decrease, leading to a lower risk premium. In the last chapter I address two main questions: how does the economy respond in a crisis experiment when credit frictions originate from both the supply-side and the demand-side of credit markets? How are alternative unconventional credit policies different in their real effects in an environment where both types of credit frictions are present? I show that higher aggregate risk results in increased leverage for both firms and financial intermediaries, leading to an endogenous amplification mechanism which appears much stronger than what predicted by the benchmark financial accelerator framework. Furthermore, I find that, following a severe recession, a credit policy entailing equity injections into the banking system performs better than one involving direct lending to non-financial firms.