Financial Stability and Interest Rates

Akinci, Ozge; Benigno, Gianluca; Del Negro, Marco; Nourbash, Ethan; Queraltó, Albert

Discussion Paper

Financial Stability and Interest Rates

Abstract: In a recent research paper we argue that interest rates have very different consequences for current versus future financial stability. In the short run, lower real rates mean higher asset prices and hence higher net worth for financial institutions. In the long run, lower real rates lead intermediaries to shift their portfolios toward risky assets, making them more vulnerable over time. In this post, we use a model to highlight the challenging trade-offs faced by policymakers in setting interest rates.

Keywords: financial stability; monetary policy; Dynamic Stochastic General Equilibrium (DSGE) models; rates; nonlinear responses; shocks; fire sale;

JEL Classification: E2; E5; E4; G2;