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Self-Enforcing Debt and Rational Bubbles

Author

Listed:
  • Victor Filipe Martins da Rocha

    (CEREMADE - CEntre de REcherches en MAthématiques de la DEcision - Université Paris Dauphine-PSL - PSL - Université Paris sciences et lettres - CNRS - Centre National de la Recherche Scientifique, EESP - Sao Paulo School of Economics - FGV - Fundacao Getulio Vargas [Rio de Janeiro])

  • Mateus Santos

    (Department of Economics, University of Minnesota - UMN - University of Minnesota [Twin Cities] - University of Minnesota System)

Abstract

We analyze repayment incentives in an infinite horizon competitive economy where agents cannot commit to financial contracts. We follow Bulow and Rogoff (1989) by assuming that a defaulting agent is excluded from borrowing forever but keeps the ability to save. Hellwig and Lorenzoni (2009) proved that self-enforcing and not-too-tight debt limits can form a bubble (or discounted martingale) at equilibrium. They also show that when debt limits form a bubble, then the equilibrium outcomes (prices and consumption) are the same as in a model without private debt but with unbacked public debt. The contribution of this paper is to show that bubbles are the only debt limits that are self-enforcing and not too tight. Our characterization is obtained without imposing any ad-hoc boundedness assumption on the endogenous debt limits.

Suggested Citation

  • Victor Filipe Martins da Rocha & Mateus Santos, 2019. "Self-Enforcing Debt and Rational Bubbles," Post-Print hal-01951504, HAL.
    • Handle: RePEc:hal:journl:hal-01951504
    DOI: 10.2139/ssrn.3169229
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    Cited by:

    1. Victor Filipe Martins da Rocha & Toan Phan & Yiannis Vailakis, 2019. "Debt Limits and Credit Bubbles in General Equilibrium," Post-Print hal-02429759, HAL.
    2. Dirk Krueger & Harald Uhlig, 2024. "Neoclassical Growth with Limited Commitment," PIER Working Paper Archive 22-023, Penn Institute for Economic Research, Department of Economics, University of Pennsylvania.

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