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The myth of financial innovation and the great moderation

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Financial innovation is widely believed to be at least partly responsible for the recent financial crisis. At the same time, there are empirical and theoretical arguments that support the view that changes in financial markets, in particular, innovations in consumer credit and home mortgages, played a role in the ‘great moderation’. This article questions empirical evidence supporting this view. Especially the behaviour of aggregate home mortgages changed less during the great moderation than is typically believed. A remarkable change we do find is that monetary tightenings became episodes during which financial institutions other than banks increased their mortgages holdings.

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en

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http://eprints.lse.ac.uk/41885/

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