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Annual Review of Financial Economics

Volume 15, 2023

Macro-Finance Models with Nonlinear Dynamics

Abstract

We review macro-finance models featuring nonlinear dynamics that have recently been developed in the literature, including models with funding liquidity constraints, market liquidity frictions, and bank run frictions, and discuss the empirical evidence and challenges of this class of models. We also construct an illustrative model featuring financial frictions and nonlinear dynamics for readers who are unfamiliar with the literature. We solve the model using different solution techniques, including both global and perturbation solution methods, and comprehensively compare the accuracy of these solutions. Within this framework, we highlight that local linearization approximations omit important nonlinear dynamics and yield biased impulse responses.

Keyword(s): DSGE models, dynamic stochastic general equilibrium models, endogenous jump risk, financial constraints, JEL C51, JEL G12, JEL G29, liquidity, systemic risk
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2023-11-01
2024-05-29
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/content/journals/10.1146/annurev-financial-110921-112053
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Macro-Finance Models with Nonlinear Dynamics
Annual Review of Financial Economics 15, 407 (2023); https://doi.org/10.1146/annurev-financial-110921-112053
/content/journals/10.1146/annurev-financial-110921-112053
/content/journals/10.1146/annurev-financial-110921-112053
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