We study optimal interest-rate policy in a New Keynesian model in which the economy can experience financial crises and the probability of a crisis depends on credit conditions. The optimal adjustment to interest rates in response to credit conditions is (very) small in the model calibrated to match the historical relationship between credit conditions, output, inflation, and likelihood of financial crises. Given the imprecise estimates of key parameters, we also study optimal policy under parameter uncertainty. We find that Bayesian and robust central banks will respond more aggressively to financial instability when the probability and severity of financial crises are uncertain. JEL Classification: E43, E52, E58, G01

I use micro data to quantify key features of U.S. firm financing. In particular, I establish that a substantial 35% of firms' investment is funded using financial markets. I then construct a dynamic equilibrium model that matches these features and fit the model to business cycle data using Bayesian methods. In the model, stylized banks enable trades of financial assets, directing funds towards investment opportunities, and charge an intermediation spread to cover their costs. suggests that the answer is 'yes'. I find that financial sector shocks account for 35% and 60% of output and investment volatility, respectively. These are the implications of a dynamic model estimated using the past 20 years of data for the United States.A key input into the analysis is a characterization of how important financial markets are for physical investment. To this end, I analyze the cash flow statements of all the U.S. public nonfinancial companies available in Compustat. I find that 35% of the capital expenditures of these firms is funded using financial markets. Of this funding, around 75% is raised by issuing debt and equity and 25% by liquidating existing assets. My analysis at quarterly frequencies suggests that the financial system is crucial in reconciling imbalances between the positive operating cash flows and capital expenditures.Shocks that affect the degree of efficiency of the financial system in allocating private savings to productive needs can have large effects on capital accumulation and aggregate activity. To quantify the effects of such disturbances on the business cycle, I build a dynamic general equilibrium model with financial frictions in which entrepreneurs, like firms in the Compustat dataset, issue and trade financial claims to fund their investments. The model builds on Kiyotaki and Moore (2008), henceforth KM. In my theoretical framework, trading of financial assets occurs through banks and exogenous shocks can affect the financial intermediation technology. Differently from KM, I assume that prices and wages are sticky and show that this feature of the model is key for the financial shock to generate procyclical movements in labor inputs, consumption and investment.In my model, entrepreneurs are endowed with random heterogeneous technologies to accumulate physical capital. Those entrepreneurs who receive better technologies issue financial claims to increase their investment capacity. Entrepreneurs with worse investment opportunities instead prefer to buy financial claims and lend to more efficient entrepreneurs, expecting higher rates of return than those granted by their own technologies.I introduce stylized financial intermediaries (banks) that bear a cost to transfer resources from entrepreneurs with poor capital accumulation technologies to investors with efficient capital production skills. Banks buy financial claims from investors and sell them to other entrepreneurs. In doing so, perfectly competitive banks charge an intermediation spread to cover their costs (Chari, Christiano, an...

We propose a no-arbitrage model of the nominal and real term structures that accommodates the different persistence and volatility of distinct inflation components. Core, food, and energy inflation combine into a single total inflation measure that ties nominal and real risk-free bond prices together. The model successfully extracts market participants’ expectations of future inflation from nominal yields and inflation data. Estimation uncovers a factor structure common to core inflation and interest rates and downplays the pass-through effect of short-lived food and energy shocks on inflation and interest rates. Model forecasts systematically outperform survey forecasts and other benchmarks. Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online.

I use micro data to quantify key features of U.S. firm financing. In particular, I establish that a substantial 35% of firms' investment is funded using financial markets. I then construct a dynamic equilibrium model that matches these features and fit the model to business cycle data using Bayesian methods. In the model, stylized banks enable trades of financial assets, directing funds towards investment opportunities, and charge an intermediation spread to cover their costs. suggests that the answer is 'yes'. I find that financial sector shocks account for 35% and 60% of output and investment volatility, respectively. These are the implications of a dynamic model estimated using the past 20 years of data for the United States.A key input into the analysis is a characterization of how important financial markets are for physical investment. To this end, I analyze the cash flow statements of all the U.S. public nonfinancial companies available in Compustat. I find that 35% of the capital expenditures of these firms is funded using financial markets. Of this funding, around 75% is raised by issuing debt and equity and 25% by liquidating existing assets. My analysis at quarterly frequencies suggests that the financial system is crucial in reconciling imbalances between the positive operating cash flows and capital expenditures.Shocks that affect the degree of efficiency of the financial system in allocating private savings to productive needs can have large effects on capital accumulation and aggregate activity. To quantify the effects of such disturbances on the business cycle, I build a dynamic general equilibrium model with financial frictions in which entrepreneurs, like firms in the Compustat dataset, issue and trade financial claims to fund their investments. The model builds on Kiyotaki and Moore (2008), henceforth KM. In my theoretical framework, trading of financial assets occurs through banks and exogenous shocks can affect the financial intermediation technology. Differently from KM, I assume that prices and wages are sticky and show that this feature of the model is key for the financial shock to generate procyclical movements in labor inputs, consumption and investment.In my model, entrepreneurs are endowed with random heterogeneous technologies to accumulate physical capital. Those entrepreneurs who receive better technologies issue financial claims to increase their investment capacity. Entrepreneurs with worse investment opportunities instead prefer to buy financial claims and lend to more efficient entrepreneurs, expecting higher rates of return than those granted by their own technologies.I introduce stylized financial intermediaries (banks) that bear a cost to transfer resources from entrepreneurs with poor capital accumulation technologies to investors with efficient capital production skills. Banks buy financial claims from investors and sell them to other entrepreneurs. In doing so, perfectly competitive banks charge an intermediation spread to cover their costs (Chari, Christiano, an...