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Rational Bubbles and Macroeconomic Fluctuations. The(De-)Stabilizing Role of Monetary Policy

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Abstract

We are interested in the occurrence of expectation-driven fluctuations of a rational bubble and the (de-)stabilizing role of monetary policy. Our explanation of fluctuations is based on credit market imperfections. For this purpose, we consider an overlapping generations exchange economy where households realize a portfolio choice between money and bubble. Money is held because of a partial cash-in-advance constraint affected by the bubble. Bubble acts as a store of value, but also as a collateral. Indeed, a higher value of the bubble implies a higher amount of collateral, which, in turn, reduces the need of cash, and thus increases consumption purchased on credit. Under these credit market features, expectation-driven fluctuations and the multiplicity of steady-states occur, in particular for arbitrarily small market distortions. Investing the stabilizing role of monetary policy, we show that when the monetary policy rule depends on expected inflation only, a more active rule stabilizes only if collateral has a large effect on consumption financed on credit. Finally, we enrich this rule by including asset prices. A policy which depends on asset prices can stabilize whatever the effect of collateral and can also rule out the multiplicity of steady states. More generally, this paper emphasizes the key role of consumers' credit market imperfections to explain bubble fluctuations and exhibits the stabilizing power of monetary rules including asset prices.
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  • Lise Clain-Chamosset-Yvrard & Thomas Seegmuller, 2012. "Rational Bubbles and Macroeconomic Fluctuations. The(De-)Stabilizing Role of Monetary Policy," AMSE Working Papers 1207, Aix-Marseille School of Economics, France, revised 23 Mar 2012.
  • Handle: RePEc:aim:wpaimx:1207
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    3. Mathieu Boullot, 2017. "Secular Stagnation, Liquidity Trap and Rational Asset Price Bubbles," Working Papers halshs-01295012, HAL.
    4. Indrani Manna, 2018. "Can We Still Lean Against the Wind?," Open Economies Review, Springer, vol. 29(2), pages 223-259, April.

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    More about this item

    Keywords

    Rational bubble; Cash-in-advance constraint; Collaterals; Endogenous fluctuations; Monetary policy.;
    All these keywords.

    JEL classification:

    • D91 - Microeconomics - - Micro-Based Behavioral Economics - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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