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Leveraged financing, over investment, and boom-bust cycles

Author

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  • Patrick-Antoine Pintus

    () (GREQAM - Groupement de Recherche en Économie Quantitative d'Aix-Marseille - EHESS - École des hautes études en sciences sociales - AMU - Aix Marseille Université - CNRS - Centre National de la Recherche Scientifique - ECM - Ecole Centrale de Marseille)

  • Yi Weng

    () (Federal Reserve Bank of St. Louis - Federal Reserve Bank of St. Louis, Tsinghua University [Beijing])

Abstract

It has long been argued in the history of economic thought that over investment through highly leveraged borrowing under elastic credit supply may generate large boom-bust business cycles. This paper rationalizes this idea in a dynamic general equilibrium model with infinitely lived rational agents. It shows that dynamic interactions between strong asset-accumulation motives (based on habit formation on the borrower side) and elastic credit supply (based on collateralized lending on the lender side) generate a multiplier-accelerator mechanism that can transform a one-time technological innovation into large and long-lasting boom-bust cycles. Such cycles share many features in common to investment bubbles observed in the history (such as the IT bubble in the 1990s and the 2000s housing bubble).

Suggested Citation

  • Patrick-Antoine Pintus & Yi Weng, 2009. "Leveraged financing, over investment, and boom-bust cycles," Working Papers halshs-00439245, HAL.
  • Handle: RePEc:hal:wpaper:halshs-00439245 Note: View the original document on HAL open archive server: https://halshs.archives-ouvertes.fr/halshs-00439245
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    References listed on IDEAS

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    1. Pintus, Patrick A., 2011. "Collateral constraints and the amplification-persistence trade-off," Economics Letters, Elsevier, vol. 110(1), pages 64-66, January.
    2. Kiyotaki, Nobuhiro & Moore, John, 1997. "Credit Cycles," Journal of Political Economy, University of Chicago Press, vol. 105(2), pages 211-248, April.
    3. Juan-Carlos Cordoba & Marla Ripoll, 2004. "Credit Cycles Redux," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 45(4), pages 1011-1046, November.
    4. Pierre‐André Chiappori & Monica Paiella, 2011. "Relative Risk Aversion Is Constant: Evidence From Panel Data," Journal of the European Economic Association, European Economic Association, vol. 9(6), pages 1021-1052, December.
    5. Narayana R. Kocherlakota, 2000. "Creating business cycles through credit constraints," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Sum, pages 2-10.
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    Cited by:

    1. Pengfei Wang & Yi Wen, 2012. "Speculative Bubbles and Financial Crises," American Economic Journal: Macroeconomics, American Economic Association, vol. 4(3), pages 184-221, July.

    More about this item

    Keywords

    Over-Investment; Borrowing Constraints; Multiplier-Accelerator; Elastic Credit Supply;

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