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A Macroeconomic Model with a Financial Sector

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  • Yuliy Sannikov
  • Markus K. Brunnermeier

    (Princeton University)

Abstract

This paper studies a macroeconomic model in which financial experts borrow from less productive agents in order to invest in financial assets. We pursue three set of results: (i) Going beyond a steady state analysis, we show that adverse shocks cause amplifying price declines not only through the erosion of net worth of the financial sector, but also through increased price volatility, leading to precautionary hoarding and fire sales. (ii) Financial sector’s leverage and maturity mismatch is excessive, since it does not internalize externalities it imposes on the labor sector and other financial experts due to a fire-sale externality. (iii) Securitization, which allows the financial sector to offload some risk, exacerbates the excessive risk-taking.

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Bibliographic Info

Paper provided by Society for Economic Dynamics in its series 2010 Meeting Papers with number 1114.

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Date of creation: 2010
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Handle: RePEc:red:sed010:1114

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