ABSTRACT
This chapter explains that the central banks have some roles to play in financial stability. It provides lender of last resort funding, which implies accommodating the higher demand for outside money in panic periods. The chapter describes that the control of inflation can have financial stability implications, through two mechanisms: debt deflation and the financial accelerator. It shows that central banks may themselves put financial stability at risk and stoke the financial cycle, by keeping interest rates too low for too long. Central banks have to play a stabilisation role on inflation depending on the vagaries of the financial cycle. The chapter shows that debt deflation is a direct consequence of the fact that debt contracts are typically. The most important aspect of financial stability, not only for central banks but for economic policy more generally, is the risk of unsustainable booms and subsequent busts in credit and asset prices - in short, the ever-present possibility of a 'Minsky moment'.
