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Financial instability and debt deflation dynamics in a bottom-up approach

Author

Listed:
  • Carl Chiarella

    (Finance Discipline Group - University of Technology, Sydney)

  • Corrado Di Guilmi

    (Economics Discipline Group - University of Technology, Sydney)

Abstract

In this paper we expand the agent based model introduced by Chiarella and Di Guilmi (Chiarella, C. and Di Guilmi, C., The financial instability hypothesis: A stochastic microfoundation framework. Journal of Economic Dynamics and Control, 35(8):1151 – 1171, 2011) in which the business cycle originates by the modifications in firms' balance sheets induced by their investment decisions. During periods of market euphoria, firms increase their capital stock and their level of debt. At the same time the increasing availability of liquidity for investors causes inflation in asset price. When firms' debt reaches an unsustainable level the virtuous cycle is reversed in a depression. We modify the original model in order to study the impact of the dependence of firms' expectations on the stock market performance and of the rise in the proportion of Ponzi firms. We also run a further computational experiment to assess the effect of the buy-back of firms' shares.

Suggested Citation

  • Carl Chiarella & Corrado Di Guilmi, 2014. "Financial instability and debt deflation dynamics in a bottom-up approach," Economics Bulletin, AccessEcon, vol. 34(1), pages 125-132.
    • Handle: RePEc:ebl:ecbull:eb-13-00662
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    References listed on IDEAS

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    1. Chiarella, C. & Di Guilmi, C., 2017. "Monetary Policy And Debt Deflation: Some Computational Experiments," Macroeconomic Dynamics, Cambridge University Press, vol. 21(1), pages 214-242, January.
    2. Myers, Stewart C, 1984. "The Capital Structure Puzzle," Journal of Finance, American Finance Association, vol. 39(3), pages 575-592, July.
    3. Chiarella Carl & Di Guilmi Corrado, 2012. "The Fiscal Cost of Financial Instability," Studies in Nonlinear Dynamics & Econometrics, De Gruyter, vol. 16(4), pages 1-29, October.
    4. Ryoo, Soon, 2010. "Long waves and short cycles in a model of endogenous financial fragility," Journal of Economic Behavior & Organization, Elsevier, vol. 74(3), pages 163-186, June.
    5. Chiarella, Carl & Di Guilmi, Corrado, 2011. "The financial instability hypothesis: A stochastic microfoundation framework," Journal of Economic Dynamics and Control, Elsevier, vol. 35(8), pages 1151-1171, August.
    Full references (including those not matched with items on IDEAS)

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    Cited by:

    1. Reissl, Severin, 2020. "Minsky from the bottom up – Formalising the two-price model of investment in a simple agent-based framework," Journal of Economic Behavior & Organization, Elsevier, vol. 177(C), pages 109-142.

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    JEL classification:

    • E3 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles
    • E0 - Macroeconomics and Monetary Economics - - General

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