Essays in financial macroeconomics

This dissertation explores the relationship between financial frictions and the real economy. It studies three channels of macro-financial transmission: market power of financial intermediaries, credit portfolio risk that originates from granular borrowers, and aggregate implications of countercyclical bank income risk. The first Chapter of the dissertation develops a quantitative model with financial intermediaries that are heterogeneous along four empirically-motivated dimensions: balance sheet size, credit market power, default risk, and efficiency. The framework highlights a trilemma for bank regulation: financial competition, efficiency, and stability are incompatible – no policy intervention can improve all three facets simultaneously. This trilateral trade-off is shown to extend to numerous classic and new issues in macroeconomics and banking such as deposit insurance, capital requirements, the "too-big-to-fail" hazard, emergence of fintech lending, etc. The second Chapter (joint with Hélène Rey, Ragnar Juelsrud, and Sigurd Galaasen) provides the first bottom-up quantification of single-name credit concentration risk by applying a novel empirical approach to administrative matched bank-firm data from Norway. The study exploits granularity in the distribution of loan shares and shows that idiosyncratic shocks to large borrowers survive portfolio aggregation and impact bank outcomes, contrary to conventional theories. Moreover, granular credit shocks spill over to other firms through banks’ balance sheets, increase probability of default for the affected firms, thus having a significant impact on the real economy. The third Chapter (joint with Tommaso Monacelli) builds a quantitative macroeconomic model with aggregate uncertainty and heterogeneous financial intermediaries that face counter-cyclical idiosyncratic rate of return shocks. Counter-cyclicality of bank income risk is estimated directly from U.S. bank-level data, holds for the past 40 years, and extends to the most recent COVID-19 recession. The channel is found to significantly amplify and prolong economic downturns