Credit Crises, Precautionary Savings, and the Liquidity Trap

  title={Credit Crises, Precautionary Savings, and the Liquidity Trap},
  author={Veronica Guerrieri and Guido Lorenzoni},
  journal={Alfred P. Sloan: Economic Implications of the Great Recession (Topic)},
We use a model a la Bewly-Huggett-Ayagari to explore the effects of a credit crunch on consumer spending. Households borrow and lend to smooth idiosyncratic income shocks facing an exogenous borrowing constraint. We look at the economy response after an unexpected permananent tightening of this constraint. The interest rate drops sharply in the short run and then adjusts to a lower steady state level. This is due to the fact that after the shock a large fraction of agents is far below their… Expand
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