On Ponzi schemes in infinite horizon collateralized economies with default penalties
AbstractAraujo, Páscoa and Torres-Martínez (2002) showed that, without imposing any debt constraint, Ponzi schemes are ruled out in infinite horizon economies with limited commitment when collateral is the only mechanism that partially secures loans. Páscoa and Seghir (2009) presented two examples in which they argued that Ponzi schemes may reappear if, additionally to the seizure of the collateral, there are sufficiently harsh default penalties assessed (directly in terms of utility) against the defaulters. Moreover, they claimed that if default penalties are moderate then Ponzi schemes are ruled out and existence of a competitive equilibrium is restored. This paper questions the validity of the claims made in Páscoa and Seghir (2009).First, we show that it is not true that harsh default penalties lead to Ponzi schemes in the examples they have proposed. A competitive equilibrium with no trade can be supported due to unduly pessimistic expectations on asset deliveries. We subsequently refine the equilibrium concept in the spirit of Dubey, Geanakoplos and Shubik (2005) in order to rule out spurious inactivity on asset markets due to irrational expectations. Our second contribution is to provide a specific example of an economy with moderate default penalties in which Ponzi schemes reappear when overpessimistic beliefs on asset deliveries are ruled out. Our finding shows that, contrary to what is claimed by Páscoa and Seghir (2009), moderate default penalties do not always prevent agents to run a Ponzi scheme.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by FGV/EPGE Escola Brasileira de Economia e Finanças, Getulio Vargas Foundation (Brazil) in its series Economics Working Papers (Ensaios Economicos da EPGE) with number 718.
Date of creation: 30 Jun 2011
Date of revision:
Contact details of provider:
Postal: Praia de Botafogo 190, sala 1100, Rio de Janeiro/RJ - CEP: 22253-900
Web page: http://epge.fgv.br
More information through EDIRC
Other versions of this item:
- V. Martins-da-Rocha & Yiannis Vailakis, 2012. "On Ponzi schemes in infinite horizon collateralized economies with default penalties," Annals of Finance, Springer, vol. 8(4), pages 455-488, November.
- D52 - Microeconomics - - General Equilibrium and Disequilibrium - - - Incomplete Markets
- D91 - Microeconomics - - Intertemporal Choice - - - Intertemporal Household Choice; Life Cycle Models and Saving
This paper has been announced in the following NEP Reports:
- NEP-ALL-2011-08-02 (All new papers)
You can help add them by filling out this form.
CitEc Project, subscribe to its RSS feed for this item.
- Martins-da-Rocha, V. Filipe & Vailakis, Yiannis, 2012. "Harsh default penalties lead to Ponzi schemes: A counterexample," Games and Economic Behavior, Elsevier, vol. 75(1), pages 277-282.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Núcleo de Computação da EPGE).
If references are entirely missing, you can add them using this form.