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"Irrational exuberance" in the Pigou cycle under collateral constraints

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  • Keiichiro Kobayashi
  • Masaru Inaba

Abstract

The boom-bust cycles such as the episode of the "Internet bubble" in the late 1990s may be described as the business cycle driven by changes in expectations, which is called the Pigou cycle by Beaudry and Portier (An exploration into Pigou's theory of cycles, Journal of Monetary Economics, 2004). The key feature of the notion of the Pigou cycle is the comovements in the consumption, the labor, and the investment, in response to changes in expectations. We show that with the assumption that firms are subject to the collateral constraint in financing labor input (and investment), a fairly standard neoclassical model can generate the Pigou cycle. We also show that the collateral-constraint model with the private information can generate the "irrational exuberance," i.e., a boom in which each firm correctly anticipates that its own productivity will not rise, while it also believes wrongly that the productivity of the other firms will rise dramatically.

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Bibliographic Info

Paper provided by Research Institute of Economy, Trade and Industry (RIETI) in its series Discussion papers with number 06015.

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Length: 30 pages
Date of creation: Mar 2006
Date of revision:
Handle: RePEc:eti:dpaper:06015

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  1. Beaudry, Paul & Portier, Franck, 2007. "When can changes in expectations cause business cycle fluctuations in neo-classical settings?," Journal of Economic Theory, Elsevier, vol. 135(1), pages 458-477, July.
  2. Enrique G. Mendoza & Katherine A. Smith, 2004. "Quantitative Implication of A Debt-Deflation Theory of Sudden Stops and Asset Prices," NBER Working Papers 10940, National Bureau of Economic Research, Inc.
  3. Nir Jaimovich & Sergio Rebelo, 2006. "Can News About the Future Drive the Business Cycle?," NBER Working Papers 12537, National Bureau of Economic Research, Inc.
  4. Beaudry, Paul & Portier, Franck, 2001. "An Exploration into Pigou's Theory of Cycles," CEPR Discussion Papers 2996, C.E.P.R. Discussion Papers.
  5. Keiichiro Kobayashi & Masaru Inaba, 2006. "Borrowing constraints and protracted recessions," Discussion papers 06011, Research Institute of Economy, Trade and Industry (RIETI).
  6. Franck Portier & Paul Beaudry, 2004. "When Can Changes in Expectations Cause Business Cycle Fluctuations?," 2004 Meeting Papers 865, Society for Economic Dynamics.
  7. Edison, Hali J & Luangaram, Pongsak & Miller, Marcus, 2000. "Asset Bubbles, Leverage and 'Lifeboats': Elements of the East Asian Crisis," Economic Journal, Royal Economic Society, vol. 110(460), pages 309-34, January.
  8. Allen, Franklin & Gale, Douglas, 2000. "Bubbles and Crises," Economic Journal, Royal Economic Society, vol. 110(460), pages 236-55, January.
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Cited by:
  1. Beaudry, Paul & Portier, Franck, 2013. "News Driven Business Cycles: Insights and Challenges," CEPR Discussion Papers 9624, C.E.P.R. Discussion Papers.

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