Monetary Easing, Investment and Financial Instability

Viral Acharya , Guillaume Plantin (1, 2)

1 ECON - Département d'économie (Sciences Po)
2 Tepper School of Business

This paper studies a model of the interest-rate channel of monetary policy in which a low policy rate lowers the cost of capital for firms thereby spurring investment, but also induces destabilizing “carry trades” against their assets. If the public sector does not have sufficient fiscal capacity to cope with the large resulting private borrowing, then carry trades and productive investment compete for scarce funds, and so the former crowd out the latter. Below an endogenous lower bound, monetary easing generates only limited investment at the cost of large and socially wasteful financial risk taking.

Keywords: Monetary policy; Financial stability; Shadow banking; Carry trades; Monetary policy

Domains: Humanities and Social Sciences; Economics and Finance

Viral Acharya, Guillaume Plantin. Monetary Easing, Investment and Financial Instability. 2019. ⟨hal-03393106⟩