The Effects of Bank Rescue Measures in the recent Financial Crisis
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3. The Model 3We consider two regions, the EU and the RoW. Both regions produce goods which are imperfect substitutes to goods produced in the other region. Households engage in international financial markets and there is perfect international capital mobility. We distinguish between three types of households, savers, investors/equity holders and debtors. The saver households do not engage directly in investment decisions (except residential investment) but save in the form of deposits (and corporate bonds). Consequently they earn interest income from financial assets and receive net wages. The investors own the banks and the non financial corporate sector, and make corporate investment and loan supply decisions. Loans are supplied to households to finance residential investment, while corporate investment is financed via stock and bond markets4. In order to distinguish between borrowers and savers in the household sector, we distinguish households by the rate of time preference. Savers with a low rate of time preference supply funds to investors, while households with a high rate of time preference receive loans from investors/banks. Mortgage loans supplied to creditors and bonds supplied to equity owners are subject to a collateral constraint. There is a monetary authority, following rules based stabilisation policies. Behavioural and technological relationships can be subject to auto-correlated shocks denoted by  , where k stands for the type of shock. The logarithm of will generally be auto-correlated with autocorrelation coefficient  and innovation  . 5
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