Economic Cycles Driven by Endogenous Money Growth

Source abstract

This study develops a simple macrofinance model in which banks create money, and money creation sustains the endogenous growth of money. The study illustrates an equilibrium growth rate of endogenous money created by banks. Furthermore, it depicts the full dynamics of endogenous money growth based on the Minskyan accelerator-multiplier approach. Endogenous money growth dynamics lead to economic cycles. Banks endogenously drive economic cycles by providing credit and creating money. We refer to this mechanism as bank-driven cycles. Bank-driven cycles are self-reinforcing, generating financial instability. This finding indicates the central proposition of the financial instability hypothesis. This model jointly determines the evolution of bank spreads and economic growth. It replicates the correlation between term spreads and economic growth rates. Its joint dynamics are qualitatively consistent with the predictive relation between bank spreads and economic growth. A formal stability analysis of the coupled system shows that cyclical behavior is generic in the plausible parameter region. The joint dynamics imply a monetary policy channel through which a higher bank spread may increase bank money creation and boost economic growth. This study elicits an understanding of the unique nature of banks and their impacts on macroeconomic fluctuations.