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A Simple Model of the Financial Crisis of 2007-9 with Implications for the Design of a Stimulus Package

  • Basu, Kaushik

    (Cornell University)

The financial crisis of 2007-09 began as a local problem in the mortgage finance market in the United States and Europe but, within months, escalated into a general global financial crisis, resulting in collapsing investment not just in developed nations but also in Shanghai, Rio and Mumbai, and has led to a general recession worldwide. The paper builds a rational-expectations, microeconomic model of why the local crisis escalated into a general freeze in credit flows. It then isolates two very different kinds of interventions needed to restore the economy back to health, arguing that government stimulus policy has not had enough impact because a failure to understand the need for the dual intervention.

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Paper provided by Cornell University, Center for Analytic Economics in its series Working Papers with number 09-11.

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Date of creation: Aug 2009
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Handle: RePEc:ecl:corcae:09-11
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  1. Diamond, Douglas W & Dybvig, Philip H, 1983. "Bank Runs, Deposit Insurance, and Liquidity," Journal of Political Economy, University of Chicago Press, vol. 91(3), pages 401-19, June.
  2. Karen M. Pence, 2006. "Foreclosing on Opportunity: State Laws and Mortgage Credit," The Review of Economics and Statistics, MIT Press, vol. 88(1), pages 177-182, February.
  3. Christopher J. Mayer & Karen M. Pence & Shane M. Sherlund, 2008. "The rise in mortgage defaults," Finance and Economics Discussion Series 2008-59, Board of Governors of the Federal Reserve System (U.S.).
  4. repec:ecl:corcae:03-04 is not listed on IDEAS
  5. Hyun Song Shin, 2009. "Reflections on Northern Rock: The Bank Run That Heralded the Global Financial Crisis," Journal of Economic Perspectives, American Economic Association, vol. 23(1), pages 101-19, Winter.
  6. Bhaduri, Amit, 1977. "On the Formation of Usurious Interest Rates in Backward Agriculture," Cambridge Journal of Economics, Oxford University Press, vol. 1(4), pages 341-52, December.
  7. Assar Lindbeck & Sten Nyberg & Jörgen W. Weibull, 1999. "Social Norms and Economic Incentives in the Welfare State," The Quarterly Journal of Economics, Oxford University Press, vol. 114(1), pages 1-35.
  8. Aghion, Philippe & Bacchetta, Philippe & Banerjee, Abhijit, 2000. "A simple model of monetary policy and currency crises," European Economic Review, Elsevier, vol. 44(4-6), pages 728-738, May.
  9. Basu, Kaushik, 2009. "A Marketing Scheme for Making Money off Innocent People: A User's Manual," Working Papers 09-09, Cornell University, Center for Analytic Economics.
  10. Ricardo J. Caballero & Alp Simsek, 2009. "Complexity and Financial Panics," NBER Working Papers 14997, National Bureau of Economic Research, Inc.
  11. Joshua Coval & Jakub Jurek & Erik Stafford, 2009. "The Economics of Structured Finance," Journal of Economic Perspectives, American Economic Association, vol. 23(1), pages 3-25, Winter.
  12. Besley, Timothy & Coate, Stephen, 1992. "Understanding welfare stigma: Taxpayer resentment and statistical discrimination," Journal of Public Economics, Elsevier, vol. 48(2), pages 165-183, July.
  13. Kaushik Basu, 2009. "A Marketing Scheme for Making Money off Innocent People: A User’s Manual," Working Papers id:2341, eSocialSciences.
  14. Kaushik Basu, 2003. "Globalization and the Politics of International Finance: The Stiglitz Verdict," Journal of Economic Literature, American Economic Association, vol. 41(3), pages 885-899, September.
  15. José Antonio Ocampo, 2009. "Latin America and the global financial crisis," Cambridge Journal of Economics, Oxford University Press, vol. 33(4), pages 703-724, July.
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