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Gilded Bubbles

Author

Listed:
  • David Perez-Reyna

    (Universidad de los Andes)

  • Xavier Freixas

    (Universitat Pompeu Fabra)

Abstract

Excessive credit growth and high asset prices increase the probability of a crisis. Because these two variables are determined in equilibrium, the analysis of systemic risk and the cost-benefit analysis of macroprudential regulation requires a specific framework consistent with the empirical observation. We argue that an overlapping generation model of rational bubbles can explain some of the main features of banking crises and, therefore, provide a microfounded framework for the rigorous analysis of macroprudential policy. We find that credit financed bubbles may have a role as a buffer in reducing excessive investiment at the firms' level and, thus, increasing efficiency. Still, when banks have a risk of going bankrupt a trade-off appears between financial stability and efficiency. When this is the case, macroprudential policy has a key role in improving efficiency while preserving financial stability.

Suggested Citation

  • David Perez-Reyna & Xavier Freixas, 2017. "Gilded Bubbles," 2017 Meeting Papers 1482, Society for Economic Dynamics.
    • Handle: RePEc:red:sed017:1482
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    References listed on IDEAS

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    Cited by:

    1. Alberto Martin & Jaume Ventura, 2018. "The Macroeconomics of Rational Bubbles: A User's Guide," Annual Review of Economics, Annual Reviews, vol. 10(1), pages 505-539, August.

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