The Stock Market in the Overlapping Generations
This paper studies a simple OLG model with production under the assumption that capital investment is completely irreversible: installed capital cannot be transformed back into consumption good nor transferred from one firm to another. Since firms cannot be dismantled at each generational change without loosing their value, their ownership is transmitted from generations to generations through a stock market. The paper shows that the financial price of a firm can be lower than the replacement value of its capital without creating arbitrage or dampening the incentives to invest. This possibility changes the long-run behavior of the equilibrium, but only for economies with under-accumulation. In the stock market dynamics these economies have two steady states, the Diamond steady state and the Golden Rule. The Diamond steady stable is locally saddle-point stable and can be reached by only one trajectory on which the financial price and replacement value of firms coincide at all times. All other trajectories on which there is a discount on equity converge (when they converge) to the Golden Rule which is locally stable: the discount on equity has the same effect as an increase of the savings of the young, which lowers the interest rate, and increases investment and wages at the next generation, a virtuous cycle which leads to the efficient long-run steady state. On all these trajectories the equity prices are larger than the fundamental value of future dividends and thus include a bubble component.
|Date of creation:|
|Date of revision:|
|Contact details of provider:|| Postal: University of California Davis - Department of Economics. One Shields Ave., California 95616-8578|
Phone: (530) 752-0741
Fax: (530) 752-9382
Web page: http://www.econ.ucdavis.edu/
More information through EDIRC
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- J. P. Gould, 1968. "Adjustment Costs in the Theory of Investment of the Firm," Review of Economic Studies, Oxford University Press, vol. 35(1), pages 47-55.
- Andrew B. Abel & N. Gregory Mankiw & Lawrence H. Summers & Richard J. Zeckhauser, 1989.
"Assessing Dynamic Efficiency: Theory and Evidence,"
Review of Economic Studies,
Oxford University Press, vol. 56(1), pages 1-19.
- Andrew Abel & Gregory N. Mankiw & Lawrence H. Summers & Richard Zeckhauser, . "Assessing Dynamic Efficiency: Theory and Evidence," Rodney L. White Center for Financial Research Working Papers 14-88, Wharton School Rodney L. White Center for Financial Research.
- Andrew B. Abel & N. Gregory Mankiw & Lawrence H. Summers & Richard J. Zeckhauser, 1986. "Assessing Dynamic Efficiency: Theory and Evidence," NBER Working Papers 2097, National Bureau of Economic Research, Inc.
- Manuel S. Santos & Michael Woodford, 1997.
"Rational Asset Pricing Bubbles,"
Econometric Society, vol. 65(1), pages 19-58, January.
- Woodford, Michael & Santos, Manuel S., 1995. "Rational asset pricing bubbles," UC3M Working papers. Economics 3913, Universidad Carlos III de Madrid. Departamento de Economía.
- Manuel S. Santos & Michael Woodford, 1993. "Rational Asset Pricing Bubbles," Working Papers 9304, Centro de Investigacion Economica, ITAM.
- Tobin, James, 1969. "A General Equilibrium Approach to Monetary Theory," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 1(1), pages 15-29, February.
- Pingle, Mark & Tesfatsion, Leigh, 1998.
"Active Intermediation In Overlapping Generations Economies With Production And Unsecured Debt,"
Cambridge University Press, vol. 2(02), pages 183-212, June.
- Pingle, M. & Tesfatsion, Leigh S., 1998. "Active Intermediation in Overlapping Generations Economies with Production and Unsecured Debt," Staff General Research Papers 1228, Iowa State University, Department of Economics.
- Pingle, Mark & Tesfatsion, Leigh S., 1998. "Active Intermediation in Overlapping Generations Economies with Production and Unsecured Debt," Staff General Research Papers 1953, Iowa State University, Department of Economics.
- Tirole, Jean, 1985. "Asset Bubbles and Overlapping Generations," Econometrica, Econometric Society, vol. 53(6), pages 1499-1528, November.
- Tirole, Jean, 1982. "On the Possibility of Speculation under Rational Expectations," Econometrica, Econometric Society, vol. 50(5), pages 1163-81, September.
- Philippe Weil, 1987. "Confidence and the Real Value of Money in an Overlapping Generations Economy," The Quarterly Journal of Economics, Oxford University Press, vol. 102(1), pages 1-22.
- Robert E. Lucas & Jr., 1967. "Adjustment Costs and the Theory of Supply," Journal of Political Economy, University of Chicago Press, vol. 75, pages 321.
- Gale, David, 1973. "Pure exchange equilibrium of dynamic economic models," Journal of Economic Theory, Elsevier, vol. 6(1), pages 12-36, February.
- Magill, Michael & Quinzii, Martine, 1996.
"Incomplete markets over an infinite horizon: Long-lived securities and speculative bubbles,"
Journal of Mathematical Economics,
Elsevier, vol. 26(1), pages 133-170.
- Magill, M. & Quinzii, M., 1993. "Icomplete Markets Over an Infinite Horizon: Long-Lived Securities and Speculative Bubbles," Papers 9321, Southern California - Department of Economics.
- Galor, Oded & Ryder, Harl E., 1989. "Existence, uniqueness, and stability of equilibrium in an overlapping-generations model with productive capital," Journal of Economic Theory, Elsevier, vol. 49(2), pages 360-375, December.
- Changyong Rhee, 1991. "Dynamic Inefficiency in an Economy with Land," Review of Economic Studies, Oxford University Press, vol. 58(4), pages 791-797.
- Uzawa, H, 1969. "Time Preference and the Penrose Effect in a Two-Class Model of Economic Growth," Journal of Political Economy, University of Chicago Press, vol. 77(4), pages 628-52, Part II, .
When requesting a correction, please mention this item's handle: RePEc:fth:caldec:99-13. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Thomas Krichel)
If references are entirely missing, you can add them using this form.