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Liquidity and asset market dynamics

  • Guillaume Rocheteau
  • Randall Wright

We study economies with an essential role for liquid assets in transactions. The model can generate multiple stationary equilibria, across which asset prices, market participation, capitalization, output and welfare are positively related. It can also generate a variety of nonstationary equilibria, even when fundamentals are deterministic and time invariant, including periodic, chaotic, and stochastic (sunspot) equilibria with recurrent market crashes. Some equilibria have asset price trajectories that resemble bubbles growing and bursting. We also analyze endogenous private and public liquidity provision. Sometimes it is efficient to have enough liquid assets to satiate demand; other times it is not.

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Paper provided by Federal Reserve Bank of Cleveland in its series Working Paper with number 1016.

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Date of creation: 2010
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Handle: RePEc:fip:fedcwp:1016
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