Endogenous Defaults, Value-at-Risk and the Business Cycle

Issam Samiri

No 555, National Institute of Economic and Social Research (NIESR) Discussion Papers from National Institute of Economic and Social Research

Abstract: I propose a general equilibrium model with endogenous defaults and a banking sector operating under a Value-at-Risk constraint. Analytical examination reveals that (a) the Value-at-Risk rule introduces a risk premium on bank lending, (b) this risk premium fluctuates with the business cycle, amplifying the impact of real shocks, and (c) bank leverage also fluctuates with real shocks, but its cyclical behaviour depends on the shocks' effects on default expectations, credit demand, and the bank's balance sheet. Assuming TFP shocks as the sole exogenous source of fluctuation, the model quantitatively replicates realistic fluctuations in banks' leverage, equity, lending, and credit spreads.

Keywords: RBC; Value-at-Risk; bank leverage; Credit Spreads; Financial Frictions (search for similar items in EconPapers)
JEL-codes: E13 E32 E44 G21 G32 (search for similar items in EconPapers)
Date: 2024-04
New Economics Papers: this item is included in nep-ban, nep-cfn, nep-dge, nep-fdg, nep-mac and nep-rmg
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