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Liquidity and Inefficient Investment

  • Oliver D. Hart
  • Luigi Zingales

We study the role of fiscal policy in a complete markets model where the only friction is the nonpledgeability of human capital. We show that the competitive equilibrium is constrained inefficient, leading to too little risky investment. We also show that fiscal policy following a large negative shock can increase ex ante welfare. Finally, we show that if the government cannot commit to the promised level of fiscal intervention, the ex post optimal fiscal policy will be too small from an ex ante perspective.

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File URL: http://www.nber.org/papers/w19184.pdf
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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 19184.

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Date of creation: Jun 2013
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Publication status: published as Oliver Hart & Luigi Zingales, 2015. "LIQUIDITY AND INEFFICIENT INVESTMENT," Journal of the European Economic Association, vol 13(5), pages 737-769.
Handle: RePEc:nbr:nberwo:19184
Note: CF EFG ME
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  1. Anton Korinek & Olivier Jeanne, 2013. "Macroprudential Regulation Versus Mopping Up After the Crash," 2013 Meeting Papers 405, Society for Economic Dynamics.
  2. Holmström, Bengt, 2011. "Inside and Outside Liquidity," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262015783, March.
  3. Oliver D. Hart & Luigi Zingales, 2011. "Inefficient Provision of Liquidity," NBER Working Papers 17299, National Bureau of Economic Research, Inc.
  4. Emmanuel Farhi & Mikhail Golosov & Aleh Tsyvinski, 2007. "A Theory of Liquidity and Regulation of Financial Intermediation," NBER Working Papers 12959, National Bureau of Economic Research, Inc.
  5. Kydland, Finn E & Prescott, Edward C, 1977. "Rules Rather Than Discretion: The Inconsistency of Optimal Plans," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 473-91, June.
  6. Bengt Holmstrom & Jean Tirole, 1996. "Private and Public Supply of Liquidity," NBER Working Papers 5817, National Bureau of Economic Research, Inc.
  7. Ricardo J. Caballero & Arvind Krishnamurthy, 2009. "Global Imbalances and Financial Fragility," NBER Working Papers 14688, National Bureau of Economic Research, Inc.
  8. Barro, Robert, 2006. "Rare Disasters and Asset Markets in the Twentieth Century," Scholarly Articles 3208215, Harvard University Department of Economics.
  9. Anton Korinek, 2011. "Systemic Risk-Taking: Amplification Effects, Externalities, and Regulatory Responses," NFI Working Papers 2011-WP-13, Indiana State University, Scott College of Business, Networks Financial Institute.
  10. Kiyotaki, Nobuhiro & Wright, Randall, 1989. "On Money as a Medium of Exchange," Journal of Political Economy, University of Chicago Press, vol. 97(4), pages 927-54, August.
  11. Jeremy C. Stein, 2012. "Monetary Policy as Financial Stability Regulation," The Quarterly Journal of Economics, Oxford University Press, vol. 127(1), pages 57-95.
  12. Hart, Oliver D., 1975. "On the optimality of equilibrium when the market structure is incomplete," Journal of Economic Theory, Elsevier, vol. 11(3), pages 418-443, December.
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