A key mission of the U.S. Federal Reserve System
is to safeguard the economy against systemic financial
crises. This concern with financial crises stems
from a long-held belief that they are associated with
declines in economic activity. In the U.S., there is
clear evidence that financial panics and recessions
are somehow related (Mishkin, 1991). In the case of
the Great Depression, Bernanke (1983) argues that
the disruption in financial intermediation transformed
a severe downturn into a .protracted depression..
More recently, the Asian financial crisis in 1997 was
followed by sharp declines in economic activity.
(Indonesia, Korea, Thailand, and Malaysia all experienced
two-quarter declines in gross domestic product
[GDP] of over 12 percent.) This historical record
has led to a pervasive belief that systemic crises in
the financial sector have consequences that are far
more than sectoral. Rather, they appear to affect the
entire economy, perhaps through the unique role
played by financial intermediation.