Banque de France
31 rue Croix des Petits Champs
75049 Paris Cedex 01
Institutional Affiliation: Banque de France, Paris School of Economics and CEPR
NBER Working Papers and Publications
|February 2016||Breaking the Spell with Credit-Easing: Self-Confirming Credit Crises in Competitive Search Economies|
with Ramon Marimon: w22006
We show that credit crises can be Self-Confirming Equilibria (SCE), which provides a new rationale for policy interventions like, for example, the FRB's TALF credit-easing program in 2009. We introduce SCE in competitive credit markets with directed search. These markets are efficient when lenders have correct beliefs about borrowers' reactions to their offers. Nevertheless, credit crises - where high interest rates self-confirm high credit risk - can arise when lenders have correct beliefs only locally around equilibrium outcomes. Policy is needed because competition deters the socially optimal degree of information acquisition via individual experiments at low interest rates. A policy maker with the same beliefs as lenders will find it optimal to implement a targeted subsidy to induce lo...