Faculty of Business Seminar Series / Meral Çakıcı

Date: Tuesday, March 3rd, 2020

Time: 13:30-15:00

Location: AB2, Meeting Room 345

Title: Modeling Financial Frictions in DSGE Framework

Abstract: Exploring the potential impact of financial frictions on aggregate fluctuations and propagation mechanisms has long been a topic of interest in the literature. The way in which financial frictions are captured and incorporated into the analyses in the dynamic, stochastic, general equilibrium (DSGE) framework requires special attention to the design of the models, since it affects the loan contracts and the collateral constraints that determine the outcome of those models. This paper addresses this challenge in modeling financial frictions by developing a DSGE framework, where financial frictions are introduced into the model both exogenously, through a financial openness parameter controlled by the financial regulator in the economy, and endogenously, via collateral constraints similar in spirit to the Kiyotaki-Moore framework, in order to reflect the dynamics in a small open economy efficiently. The model also involves informational asymmetries that necessitate financial intermediation and idiosyncratic risk leading to collateralized borrowing in the economy. The specification of the framework with respect to how financial frictions are modeled plays a key role in the simulation results and brings on new complications due to the ad hoc nature of the DSGE models.