Asset Price Booms and Macroeconomic Policy: A Risk-Shifting Approach
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Franklin Allen
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Gadi Barlevy
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Douglas Gale
- American Economic Journal: Macroeconomics (Forthcoming)
Abstract
This paper uses a risk-shifting model to analyze policy responses to asset price booms. We show
risk shifting leads to inefficient asset and credit booms in which asset prices can exceed fundamentals.
However, the inefficiencies associated with risk shifting arise independently of whether the asset is a
bubble. Given evidence of risk-shifting, policymakers may not need to determine if assets are bubbles to
justify intervention. We then show that some of the main candidate interventions against asset booms
have ambiguous welfare implications: Tighter monetary policy can mitigate some inefficiencies but at a
cost, while leverage restrictions may raise asset prices and lead to more leveraged speculation rather than
less. Policy responses are more e¤ective when they disproportionately discourage riskier investments.
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