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Asset Bubbles & Global Imbalances

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  • Daisuke Ikeda
  • Toan Phan

Abstract

We introduce asymmetry in financial frictions into a two-country growth model with overlapping generations, by assuming that the South faces more severe financial frictions than the North. We show that this asymmetry causes capital to flow upstream from South to North, thus explaining the so called global imbalances. More importantly, we show that capital inflows from the South enable a rational bubble to emerge in the North, despite that a Northern bubble could never emerge if the North were a closed economy. Furthermore, the bubble is inefficient as it crowds out global investment in Northern capital, and the bubble reduces steady state welfare in both North and South. Our model formalizes the idea that a “savings glut†flowing from financially underdeveloped emerging economies into the U.S. fueled the boom of a subprime mortgage bubble in the 2000s.

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Bibliographic Info

Paper provided by Department of Research, Ipag Business School in its series Working Papers with number 2013-041.

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Length: 31 pages
Date of creation: 20 Dec 2013
Date of revision:
Handle: RePEc:ipg:wpaper:2013-041

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Related research

Keywords: inefficient rational bubble; financial friction; global imbalances.;

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References

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  1. Abel, Andrew B, et al, 1989. "Assessing Dynamic Efficiency: Theory and Evidence," Review of Economic Studies, Wiley Blackwell, vol. 56(1), pages 1-19, January.
  2. Caballero, Ricardo J. & Farhi, Emmanuel & Gourinchas, Pierre-Olivier, 2008. "An Equilibrium Model of "Global Imbalances" and Low Interest Rates," Scholarly Articles 3229094, Harvard University Department of Economics.
  3. Jean Tirole & Emmanuel Farhi, 2011. "Bubbly Liquidity," 2011 Meeting Papers 1081, Society for Economic Dynamics.
  4. Alberto Martin & Jaume Ventura, 2003. "Economic growth with bubbles," Economics Working Papers 848, Department of Economics and Business, Universitat Pompeu Fabra, revised Sep 2011.
  5. Ricardo J. Caballero & Arvind Krishnamurthy, 2009. "Global Imbalances and Financial Fragility," NBER Working Papers 14688, National Bureau of Economic Research, Inc.
  6. Noriyuki Yanagawa & Gene M. Grossman, 1992. "Asset Bubbles and Endogenous Growth," NBER Working Papers 4004, National Bureau of Economic Research, Inc.
  7. Caballero, Ricardo J. & Krishnamurthy, Arvind, 2006. "Bubbles and capital flow volatility: Causes and risk management," Journal of Monetary Economics, Elsevier, vol. 53(1), pages 35-53, January.
  8. Hirano, Tomohiro & Yanagawa, Noriyuki, 2010. "Asset Bubbles, Endogenous Growth, and Financial Frictions," MPRA Paper 24085, University Library of Munich, Germany.
  9. Gourinchas, Pierre-Olivier & Rey, Hélène, 2013. "External Adjustment, Global Imbalances and Valuation Effects," CEPR Discussion Papers 9566, C.E.P.R. Discussion Papers.
  10. Paul A. Samuelson, 1958. "An Exact Consumption-Loan Model of Interest with or without the Social Contrivance of Money," Journal of Political Economy, University of Chicago Press, vol. 66, pages 467.
  11. Tirole, Jean, 1985. "Asset Bubbles and Overlapping Generations," Econometrica, Econometric Society, vol. 53(6), pages 1499-1528, November.
  12. Saint-Paul, Gilles, 1992. "Fiscal Policy in an Endogenous Growth Model," The Quarterly Journal of Economics, MIT Press, vol. 107(4), pages 1243-59, November.
  13. Tomohiro Hirano & Noriyuki Yanagawa, 2010. "Asset Bubbles, Endogenous Growth, and Financial Frictions," CARF F-Series CARF-F-223, Center for Advanced Research in Finance, Faculty of Economics, The University of Tokyo, revised Sep 2010.
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