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Harsh default penalties lead to Ponzi schemes: A counterexample

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  • Martins-da-Rocha, V. Filipe
  • Vailakis, Yiannis

Abstract

Páscoa and Seghir (2009) presented two examples to show that in the presence of utility penalties for default, collateral requirements do not always eliminate the occurrence of Ponzi schemes and equilibria may fail to exist. This paper aims at providing a counterexample to their claim. We show that in the examples they consider, a competitive equilibrium with no trade can be supported due to unduly pessimistic expectations on asset deliveries.

Suggested Citation

  • 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.
    • Handle: RePEc:eee:gamebe:v:75:y:2012:i:1:p:277-282
    DOI: 10.1016/j.geb.2011.10.004
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    1. 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.
    2. Pradeep Dubey & John Geanakoplos & Martin Shubik, 2005. "Default and Punishment in General Equilibrium," Econometrica, Econometric Society, vol. 73(1), pages 1-37, January.
    3. Aloisio Araujo & Mário Rui Páscoa & Juan Pablo Torres-Martínez, 2002. "Collateral Avoids Ponzi Schemes in Incomplete Markets," Econometrica, Econometric Society, vol. 70(4), pages 1613-1638, July.
    4. Páscoa, Mário Rui & Seghir, Abdelkrim, 2009. "Harsh default penalties lead to Ponzi schemes," Games and Economic Behavior, Elsevier, vol. 65(1), pages 270-286, January.
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    Cited by:

    1. Martins-da-Rocha, V. Filipe & Vailakis, Yiannis, 2012. "Endogenous debt constraints in collateralized economies with default penalties," Journal of Mathematical Economics, Elsevier, vol. 48(1), pages 1-13.
    2. Rubén Poblete-Cazenave & Juan Torres-Martínez, 2013. "Equilibrium with limited-recourse collateralized loans," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 53(1), pages 181-211, May.
    3. 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.
    4. Iraola, Miguel A. & Torres-Martínez, Juan Pablo, 2014. "Equilibrium in collateralized asset markets: Credit contractions and negative equity loans," Journal of Mathematical Economics, Elsevier, vol. 55(C), pages 113-122.
    5. Iraola, Miguel A. & Sepúlveda, Fabián & Torres-Martínez, Juan Pablo, 2019. "Financial segmentation and collateralized debt in infinite-horizon economies," Journal of Mathematical Economics, Elsevier, vol. 80(C), pages 56-69.

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    More about this item

    Keywords

    Infinite horizon economies; Default penalties; Collateral; Ponzi schemes; Pessimistic expectations; No-trade;
    All these keywords.

    JEL classification:

    • D52 - Microeconomics - - General Equilibrium and Disequilibrium - - - Incomplete Markets
    • D91 - Microeconomics - - Micro-Based Behavioral Economics - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making

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