Can financial innovation help to explain the reduced volatility of economic activity?

The stabilization of economic activity in the mid 1980s has received considerable attention. Research has focused primarily on the role played by milder economic shocks, improved inventory management, and better monetary policy. This paper explores another potential explanation: financial innovation...

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Bibliographic Details
Published in:Journal of monetary economics 2006, Vol.53 (1), p.123-150
Main Authors: Dynan, Karen E., Elmendorf, Douglas W., Sichel, Daniel E.
Format: Article
Language:English
Subjects:
Capital market
Correlation analysis
Deregulation
Economic activity
Economic conditions
Economic fluctuations
Financial deregulation
Financial economics
Financial innovation
Financial models
Innovations
Inventory management
Mathematical methods
Monetary economics
Monetary policy
Regulation Q
Studies
Volatility
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Summary:The stabilization of economic activity in the mid 1980s has received considerable attention. Research has focused primarily on the role played by milder economic shocks, improved inventory management, and better monetary policy. This paper explores another potential explanation: financial innovation. Examples of such innovation include developments in lending practices and loan markets that have enhanced the ability of households and firms to borrow and changes in government policy such as the demise of Regulation Q. We employ a variety of simple empirical techniques to identify links between the observed moderation in economic activity and the influence of financial innovation on consumer spending, housing investment, and business fixed investment. Our results suggest that financial innovation should be added to the list of likely contributors to the mid-1980s stabilization.
ISSN:0304-3932
1873-1295
DOI:10.1016/j.jmoneco.2005.10.012