A Macroeconomic Model with a Financial Sector

This article studies the full equilibrium dynamics of an economy with financial frictions. Due to highly nonlinear amplification effects, the economy is prone to instability and occasionally enters volatile crisis episodes. Endogenous risk, driven by asset illiquidity, persists in crisis even for ve...

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Bibliographic Details
Published in:The American economic review Vol. 104; no. 2; pp. 379 - 421
Main Authors: Brunnermeier, Markus K., Sannikov, Yuliy
Format: Journal Article
Language:English
Published: Nashville American Economic Association 01.02.2014
American Economic Assoc
Subjects:
Analysis
Capital investments
Capital structure
Crises
Criticism
Derivatives
Economic crisis
Economic models
Economic theory
Endogenous
Equilibrium
Equity
Financial leverage
Financial risk
Financial services
Finanzkrise
Investment risk
Leverage
Macroeconomics
Net worth
Prices
Return on capital
Risk
Securitization
Steady state economies
Studies
Systemrisiko
Verbriefung
Volatility
Volatilität
Wealth
ISSN:0002-8282, 1944-7981
Online Access:Get full text
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Summary:This article studies the full equilibrium dynamics of an economy with financial frictions. Due to highly nonlinear amplification effects, the economy is prone to instability and occasionally enters volatile crisis episodes. Endogenous risk, driven by asset illiquidity, persists in crisis even for very low levels of exogenous risk. This phenomenon, which we call the volatility paradox, resolves the Kocherlakota (2000) critique. Endogenous leverage determines the distance to crisis. Securitization and derivatives contracts that improve risk sharing may lead to higher leverage and more frequent crises.
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ISSN:0002-8282
1944-7981
DOI:10.1257/aer.104.2.379