Financial Intermediation: Macro Finance
Friday, Jan. 6, 2023 8:00 AM - 10:00 AM (CST)
- Chair: Philipp Schnabl, New York University
Intermediation via Credit Chains
AbstractThe modern financial system features complicated financial intermediation chains, with each layer performing a certain degree of credit/maturity transformation. We develop a dynamic model in which an entrepreneur borrows from overlapping-generation households via layers of funds, forming a credit chain. Each intermediary fund in the chain faces rollover risks from its lenders, and the optimal debt contracts among layers are time invariant and layer independent. The model delivers new insights regarding the benefits of intermediation via layers: the chain structure insulates interim negative fundamental shocks and protects the underlying cash-flows from being discounted heavily during bad times, resulting in a greater borrowing capacity. We show that the equilibrium chain length minimizes the run risk for any given contract and find that restricting
credit chain length can improve total welfare once the available funding from households has been endogenized.
A Macro-Finance Model with Sentiment
AbstractThis paper incorporates diagnostic expectations into a general equilibrium macroeconomic model with a financial intermediary sector. Diagnostic expectations are a forward-looking model of extrapolative expectations that overreact to recent macroeconomic news. Frictions in financial intermediation produce nonlinear spikes in risk premia and slumps in investment during periods of financial distress. The interaction of diagnostic expectations with financial frictions generates a short-run amplification effect followed by a long-run reversal effect, termed the feedback from behavioral frictions to financial frictions. I present three results arising from the interaction of diagnostic expectations with financial frictions. First, diagnostic expectations allow the model to generate sentiment-driven financial crises characterized by low pre-crisis risk premia and neglected risk, consistent with the empirical pattern of elevated asset prices in the lead-up to financial crises. Second, the conflicting short-run and long-run effect of diagnostic expectations produces boom-bust fluctuations in investment and output growth. Third, the model also identifies a stabilizing role for diagnostic expectations. Under the baseline calibration, financial crises are less likely to occur when expectations are diagnostic than when they are rational. Empirical tests support the addition of diagnostic expectations as a mechanism that improves the model’s fit of both broad macro-financial dynamics and the 2007-2008 Financial Crisis.
Depositing Corporate Payout
AbstractThe past two decades have witnessed a sharp increase in corporate equity payout. The annual net equity payout of non-financial public companies in the U.S. averaged $525 billion (in 2010 dollars) per year from 2004 to 2019, compared to only $141 billion during the prior 17-year period. This paper provides evidence that a significant amount of the net corporate payout flows into the banking sector in the form of deposits. Aggregate deposit growth exhibits a robust and strong positive relation with aggregate net equity payout by the non-financial business sector. An increase in local dividend income driven by aggregate dividend payout is associated with a significant increase in local bank branch deposits. Estimation using bank level data shows that the inflow of deposits leads to a significant increase in bank loans, while having no significant effect on bank holdings of securities. The findings highlight the importance of considering the linkage of financial sectors and the flow of capital in the financial system, and suggest that policies aimed at restricting payouts may distort capital allocation by limiting capital flows from large and profitable corporations to small bank-dependent firms and households.
- G2 - Financial Institutions and Services