Stagnation, namely a context connoted by missing growth and inflation, has been witnessed in the advanced economies over the course of the last 15 years. I propose a NK-DSGE framework inclusive of endogenous growth and hysteresis effects, in which I study the ability of economic policy at counteracting the stagnating trends from a macroeconomic perspective. Focus is devoted to analyse the role of monetary policy, in both its conventional and uncoventional form, by adding credit frictions and studying the relevance of the credit channel with respect to the transmission of the monetary action to the real economy.
To fulfil the previous purpose, it is necessary to build a NEK-DSGE macroeconomic model, inclusive of nominal rigidities and two relevant features: growth dynamics and financial frictions. A growth model is central to link cyclical fluctuations to long-term issues. To this concern, the contribution of Benigno & Fornaro (2018) will represent the prevailing inspiration. Here, total factor productivity can become an endogenous variable tied to aggregate demand, so that a demand weakening can explain the slowing productivity path observed in post-crisis periods through the reduction of firms' profits and the consequent fall in R&D investments and innovation, as well as hysteresis effects consistent with the recovery in employment levels seen in the last years. This specification leaves room for monetary policy to affect potential output over the long run.
Moreover, financial frictions will be added in order to identify their impact in a general equilibrium framework. A special focus on the credit channel will be devoted. To this point, Queralto (2020) will offer the main insight. As a broad classification, it will be possible to work on both demand financial frictions, related to the request for funds, and supply factors, linked to the implications of variations in the banks' balance sheets with respect to the release of resources. This requires the introduction of a banking system in the model, which in light of the previous contribution might rely on a Gertler & Kiyotaki (2010) representation for the financial intermediaries. Finally, the role of monetary policy through the financial channel can be assessed. The inclusion of a ZLB over the monetary conduct is an important element to deepen, while a shadow rate rule may help to deal with an assessment of plausible unconventional tools. The theoretical model will be linearized and simulated, to estimate the ability to replicate stylized facts and assess the dynamic behaviour of the economy after the implementation of stagnation escaping policies.
The inclusion of financial frictions within the described context is an attempt at introducing a missing element in the prevalent macroeconomic modelling. The idea is to delineate the contribution of the financial system at achieving stagnation equilibria, potentially representing a worsening factor. For instance, imperfections such as liquidity constraints over borrowers and the indebtedness of financial institutions might further reduce the incentive to private enterprise, additionally weakening the growth potential. This topic is relevant in light of the recent Covid-19 turmoil, in which a tighter access to credit could increase the financial stress and dampen the economic performance. Furthermore, this research is thought to target policy actions which could be implemented by public authorities to attenuate those frictions identified to be more relevant for the economy being in a persistent stagnation trap.
References:
Benigno, G. & Fornaro, L. (2018). Stagnation Traps. Review of Economic Studies, 85, 1425-1470.
Gertler, M. & Kiyotaki, N. (2010). Financial Intermediation and Credit Policy in Business Cycle Analysis. Handbook of Monetary Economics, 3, 547-599.
Queralto, A. (2020). A Model of Slow Recoveries from Financial Crises. Journal of Monetary Economics, 114, 1-25.