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Bubbles, Banks, and Financial Stability

  • Kosuke Aoki

    (Faculty of Economics, University of Tokyo)

  • Kalin Nikolov

    (European Central Bank)

This paper asks two main questions: (1) What makes some asset price bubbles more costly for the real economy than others? and (2) When do costly bubbles occur? We construct a model of rational bubbles under credit frictions and show that when bubbles held by banks burst this is followed by a costly financial crisis. In contrast, bubbles held by ordinary savers have relatively muted effects. Banks tend to invest in bubbles when financial liberalisation decreases their profitability.

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File URL: http://www.carf.e.u-tokyo.ac.jp/pdf/workingpaper/fseries/263.pdf
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Paper provided by Center for Advanced Research in Finance, Faculty of Economics, The University of Tokyo in its series CARF F-Series with number CARF-F-253.

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Length: 57 pages
Date of creation: Aug 2011
Date of revision:
Handle: RePEc:cfi:fseres:cf253
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  1. Ivo Welch, 2002. "Capital Structure and Stock Returns," Yale School of Management Working Papers ysm263, Yale School of Management, revised 01 Aug 2003.
  2. Christiano, Lawrence & Rostagno, Massimo & Motto, Roberto, 2010. "Financial factors in economic fluctuations," Working Paper Series 1192, European Central Bank.
  3. Alberto Martin & Jaume Ventura, 2011. "Theoretical Notes on Bubbles and the Current Crisis," IMF Economic Review, Palgrave Macmillan, vol. 59(1), pages 6-40, April.
  4. John H. Boyd & Gianni De Nicoló & Abu M. Jalal, 2009. "Bank Competition, Risk and Asset Allocations," IMF Working Papers 09/143, International Monetary Fund.
  5. Carmen M. Reinhart & Kenneth S. Rogoff, 2008. "This Time is Different: A Panoramic View of Eight Centuries of Financial Crises," NBER Working Papers 13882, National Bureau of Economic Research, Inc.
  6. Andrew B. Bernard & Jonathan Eaton & J. Bradford Jensen & Samuel Kortum, 2000. "Plants and Productivity in International Trade," Boston University - Institute for Economic Development 105, Boston University, Institute for Economic Development.
  7. Philip Lowe & Claudio Borio, 2002. "Asset prices, financial and monetary stability: exploring the nexus," BIS Working Papers 114, Bank for International Settlements.
  8. Caballero, Ricardo J. & Krishnamurthy, Arvind, 2006. "Bubbles and capital flow volatility: Causes and risk management," Journal of Monetary Economics, Elsevier, vol. 53(1), pages 35-53, January.
  9. Nikolov, Kalin, 2012. "A model of borrower reputation as intangible collateral," Working Paper Series 1490, European Central Bank.
  10. Ventura, Jaume, 2002. "Bubbles and Capital Flows," CEPR Discussion Papers 3657, C.E.P.R. Discussion Papers.
  11. Gertler, Mark & Karadi, Peter, 2011. "A model of unconventional monetary policy," Journal of Monetary Economics, Elsevier, vol. 58(1), pages 17-34, January.
  12. Tirole, Jean, 1985. "Asset Bubbles and Overlapping Generations," Econometrica, Econometric Society, vol. 53(6), pages 1499-1528, November.
  13. Chad Syverson, 2004. "Market Structure and Productivity: A Concrete Example," Journal of Political Economy, University of Chicago Press, vol. 112(6), pages 1181-1222, December.
  14. Aoki, Kosuke & Benigno, Gianluca & Kiyotaki, Nobuhiro, 2010. "Adjusting to Capital Account Liberalization," CEPR Discussion Papers 8087, C.E.P.R. Discussion Papers.
  15. Jean Tirole & Emmanuel Farhi, 2011. "Bubbly Liquidity," 2011 Meeting Papers 1081, Society for Economic Dynamics.
  16. John Moore & Nobuhiro Kiyotaki, . "Credit Cycles," Discussion Papers 1995-5, Edinburgh School of Economics, University of Edinburgh.
  17. Francisco Covas & Wouter J. Den Haan, 2011. "The Cyclical Behavior of Debt and Equity Finance," American Economic Review, American Economic Association, vol. 101(2), pages 877-99, April.
  18. Meh, Césaire A. & Moran, Kevin, 2010. "The role of bank capital in the propagation of shocks," Journal of Economic Dynamics and Control, Elsevier, vol. 34(3), pages 555-576, March.
  19. Alessi, Lucia & Detken, Carsten, 2009. "'Real time'early warning indicators for costly asset price boom/bust cycles: a role for global liquidity," Working Paper Series 1039, European Central Bank.
  20. Kareken, John H & Wallace, Neil, 1978. "Deposit Insurance and Bank Regulation: A Partial-Equilibrium Exposition," The Journal of Business, University of Chicago Press, vol. 51(3), pages 413-38, July.
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