Optimal Contracts, Aggregate Risk, and the Financial Accelerator

Carlstrom, Charles T.; Fuerst, Timothy S.; Paustian, Matthias

doi:10.26509/frbc-wp-201420

Working Paper

Optimal Contracts, Aggregate Risk, and the Financial Accelerator

Abstract: This paper derives the optimal lending contract in the financial accelerator model of Bernanke, Gertler and Gilchrist (1999), hereafter BGG. The optimal contract includes indexation to the aggregate return on capital, household consumption, and the return to internal funds. This triple indexation results in a dampening of fluctuations in leverage and the risk premium. Hence, compared with the contract originally imposed by BGG, the privately optimal contract implies essentially no financial accelerator.

Keywords: Agency costs; CGE models; optimal contracting;

JEL Classification: C68; E44; E61;

https://doi.org/10.26509/frbc-wp-201420