A Macroeconomic Model with Financially Constrained Producers and Intermediaries - forthcoming at Econometrica

Co-authors: Tim Landvoigt and Stijn van Nieuwerburgh

How much capital should financial intermediaries hold? We propose a general equilibrium model with a financial sector that makes risky long-term loans to firms, funded by deposits from savers. Government guarantees create a role for bank capital regulation. The model captures the sharp and persistent drop in macro-economic aggregates and credit provision as well as the sharp change in credit spreads observed during the Great Recession. Policies requiring intermediaries to hold more capital reduce financial fragility, reduce the size of the financial and non-financial sectors, and lower intermediary profits. They redistribute wealth from savers to the owners of banks and non-financial firms. Pre-crisis capital requirements are close to optimal. Counter-cyclical capital requirements increase welfare.

Phasing out the GSEs -- Journal of Monetary Economics (July 2016)

Co-authors: Tim Landvoigt and Stijn van Nieuwerburgh

We develop a new model of the mortgage market that emphasizes the role of the financial sector and the government. Risk tolerant savers act as intermediaries between risk averse depositors and impatient borrowers. Both borrowers and intermediaries can default. The government provides both mortgage guarantees and deposit insurance. Underpriced government mortgage guarantees lead to more and riskier mortgage originations and higher financial sector leverage. Mortgage crises occasionally turn into financial crises and government bailouts due to the fragility of the intermediaries' balance sheets. Foreclosure crises beget fiscal uncertainty, further disrupting the optimal allocation of risk in the economy. Increasing the price of the mortgage guarantee "crowds in" the private sector, reduces financial fragility, leads to fewer but safer mortgages, lowers house prices, and raises mortgage and risk-free interest rates. Due to a more robust financial sector and less fiscal uncertainty, consumption smoothing improves and foreclosure rates fall. While borrowers are nearly indifferent to a world with or without mortgage guarantees, savers are substantially better off. While aggregate welfare increases, so does wealth inequality.

Working Papers

Can the Covid Bailouts Save the Economy? - revise and resubmit at Economic Policy

Co-authors: Tim Landvoigt and Stijn van Nieuwerburgh

The covid-19 crisis has led to a sharp deterioration in firm and bank balance sheets. The government has responded with a massive intervention in corporate credit markets. We study equilibrium dynamics of macroeconomic quantities and prices, and how they are affected by government intervention in the corporate debt markets. We find that the interventions should be highly effective at preventing a much deeper crisis by reducing corporate bankruptcies by about half, and short-circuiting the doom loop between corporate and financial sector fragility. The fiscal costs are high and will lead to rising interest rates on government debt. We propose a more effective intervention with lower fiscal cost. Finally, we study longer-run consequences for firm leverage and intermediary health when pandemics become the new normal.

Staggered Adoption of Nonpharmaceutical Interventions to Contain Covid-19 Across U.S. Counties: Direct and Spillover Effects

Co-authors: Luis Quintero, Alessandro Rebucci, and Emilia Simeonova

We estimate direct and spillover effects of social distancing measures intended to slow the spread of COVID-19 at the U.S. county level using mobility indicators based on cellphone data. We find that spillover effects range between a third and a half of the direct effect depending on the particular outcome or policy considered. Our results suggest that decentralized NPI decisions, which do not internalize externalities generated on surrounding locations, could result in lower NPI implementation and weaker reduction in mobility, and hence more personal contacts and interactions in leisure and work activities, which are the main driver of the COVID-19 transmission.

Mortgage Credit, Aggregate Demand, and Unconventional Monetary Policy

I develop a quantitative model of the mortgage market operating in an economy with financial frictions and nominal rigidities. I use this model to study the effectiveness of large-scale asset purchases (LSAPs) by a central bank as a tool of monetary policy. When negative shocks hit, homeowner and financial sector balance sheets are impaired, borrowing constraints bind, asset prices and aggregate demand drop, hampering the transmission of conventional monetary policy. LSAPs boost aggregate demand in a crisis by directing additional lending to homeowners, raising house prices, and establishing expectations of future financial stability. However, subsequent policy normalization requires the financial sector to absorb heightened levels of borrower debt, depressing output and consumption in recovery. In the long run, a commitment to ongoing use of LSAPs in crises reduces credit and business cycle volatility and redistributes resources from borrowers and intermediaries to savers.

Works in Progress

Quantitative Tightening

Co-authors: Miguel Faria-e-Castro and Dan Greenwald

Reconstruction Land Ownership

Co-authors: Luke Stein and Constantin Yannelis

Method for Solving Finitely Heterogeneous Agent Models with Occasionally Binding Constraints

Co-author: Tim Landvoigt