1. Revisiting the Financial Accelerator Hypothesis
EH 447, 2008/9
Week 5-1
Albrecht Ritschl

2. Why Should Demand React to Monetary Policy Changes?
Traditional: effects on cost of capital
BUT
Monetary policy affects short term interest rates
Finding empirical effects of interest rates on investment is difficult
If anything, MP has effects on demand for long lived assets

3. Financial Accelerator
MP may effect external finance premium, i.e. cost of debt vs. equity or retained earnings
Two financial channels of monetary policy transmission
Balance sheet channel
Bank lending channel

4. Balance Sheet Channel (1)
Debt finance premium negatively related to debtor’s net worth
Liquid assets
Marketable collateral
Business cycle shocks on balance sheets amplify the business cycle
“Financial accelerator”

5. Balance Sheet Channel (2)
Monetary policy affects
Short term borrowing cost
Asset values
Measure this by “coverage ratio”, relation of interest payments by nonbank firms to total interest and profit payments

6. Coverage Ratio

7. Bank Lending Channel
Monetary policy may influence bank lending to firms
Reduction in supply of bank credit likely to have negative real effects
Restrictive open market policy would reduce bank deposits and result in credit crunch

8. Bank Lending Channel

9. Mortgage Burdens and MP

10. How Do these Things Look Like for the Great Depression?
Data projects
Econometrics projects