Do periods of persistently loose monetary policy increase financial fragility and the likelihood of a financial crisis? This is a central question for policymakers, yet the literature does not provide systematic empirical evidence about this link at the aggregate level. In this paper we fill this gap by analyzing long-run historical data. We find that when the stance of monetary policy is accommodative over an extended period, the likelihood of financial turmoil in the medium term increases considerably. We investigate the causal pathways that lead to this result and argue that credit creation and asset price overheating are important intermediating channels.

Does monetary policy affect funding vulnerabilities of banking systems? Using a newly constructed worldwide dataset covering the liability structure of banking sectors at monthly frequency, I show that contractionary monetary policy raises financial stability risk by shifting funding toward non-core, market-based sources. I rationalize this effect of monetary policy on banks' funding vulnerabilities in a model in which profit-maximizing banks do not internalize the risk stemming from rising runnable debt. This paper shows that monetary policy has direct consequences for systemic financial stability by changing the liability structure of the banking system.

Financial liberalization is often seen as a way to deepen credit markets and stimulate economic growth, but it may also fuel credit booms that end in crisis. We construct a new cross-country database of banking regulation policies covering 21 regulatory indicators for 18 advanced economies since World War II. We distinguish liberalizations that directly relax constraints on credit supply from broader financial reforms. Liberalizations that directly affect credit supply lead to substantial expansions in private credit. Credit expansion is concentrated in non-tradable sectors and is not accompanied by higher interest rates or credit spreads in the short run, consistent with an outward shift in credit supply. Real GDP rises over the following 2 to 4 years, but the gains are temporary. On average, GDP returns to trend in the medium run, and there is an increase in the risk of financial crisis and worse downside growth outcomes. Only liberalizations that directly expand credit supply generate these boom-bust dynamics. Based on these estimates, financial liberalization is welfare-improving for coefficients of relative risk aversion below 7.2, a moderately high value.

Using long-run data for 18 advanced economies, we show that the forecasting power of the yield curve for recession rests on the small subset of recessions that coincide with financial crises. We uncover a distinct pattern that differentiates the behavior of the yield curve before normal recessions and financial crises: before crises, the short-term rate rises while the long-term rate stays put. Before normal recessions, both ends of the yield curve fall. We show that a falling yield curve spread in an environment of booming bank lending provides a valuable signal for financial instability. This is driven by compressed pricing of risk and reflected in a declining term premium.

This paper examines the interaction between monetary and fiscal policy through their effects on financial market conditions, both theoretically and empirically. Monetary and fiscal policy influence the allocation directly through changes in their instruments and indirectly by impacting banks' balance sheets and credit availability. Monetary policy can affect the economy through two channels for a given fiscal stance. First, higher policy rates increase government borrowing costs, reducing the value of bonds on banks' balance sheets. This tightens banks' leverage constraints and limits their ability to raise deposits for credit. Second, quantitative tightening raises the share of bonds held by the private sector, further tightening banks' leverage constraints, similar to a rate hike. Fiscal policy that increases public debt also tightens banks' leverage constraints for a given monetary stance, increasing private sector bond holdings and adversely impacting credit and real activity.