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Working Paper

Optimal Contracts, Aggregate Risk, and the Financial Accelerator

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This paper derives the optimal lending contract in the financial accelerator model of Bernanke, Gertler and Gilchrist (1999), hereafter BGG. The optimal contract includes indexation to the aggregate return on capital, household consumption, and the return to internal funds. This triple indexation results in a dampening of fluctuations in leverage and the risk premium. Hence, compared with the contract originally imposed by BGG, the privately optimal contract implies essentially no financial accelerator.
Topics
Econometrics, modeling, and forecasting
10.10.2014ISSN 2573-7953 WP 14-20DOI 10.26509/frbc-wp-201420
Keywords agency costs, cge models, optimal contracting
JEL Classification Codes C68, E44, E61

Working Papers of the Federal Reserve Bank of Cleveland are preliminary materials circulated to stimulate discussion and critical comment on research in progress. They may not have been subject to the formal editorial review accorded official Federal Reserve Bank of Cleveland publications. The views expressed in this paper are those of the authors and do not represent the views of the Federal Reserve Bank of Cleveland or the Federal Reserve System.

*A previous version of this paper was titled "Privately Optimal Contracts and Suboptimal Outcomes in a Model of Agency Costs" and posted as Federal Reserve Bank of Cleveland, working paper no. 1239R.

Suggested Citation

Carlstrom, Charles T., Timothy S. Fuerst, and Matthius Paustian. 2014. “Optimal Contracts, Aggregate Risk, and the Financial Accelerator.” Federal Reserve Bank of Cleveland, Working Paper No. 14-20. https://doi.org/10.26509/frbc-wp-201420