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Financial Fragility and the Great Depression

  • Russell Cooper
  • Dean Corbae

We analyze a financial collapse, such as the one which occurred during the Great Depression, from the perspective of a monetary model with multiple equilibria. The economy we consider contains financial fragility due to increasing returns to scale in the intermediation process. Intermediaries provide the link between savers and firms who require working capital for production. Fluctuations in the intermediation process are driven by variations in the confidence agents place in the financial system. Our model matches quite closely the qualitative movements in some financial and real variables (the currency/deposit ratio, ex-post real interest rates, the level of intermediated activity, deflation, employment and production) during the Great Depression period.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 6094.

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Date of creation: Jul 1997
Date of revision:
Publication status: published as Cooper, Russell and Dean Corbae. "Financial Collapse: A Lesson From The Great Depression," Journal of Economic Theory, 2002, v107(2,Dec), 159-190.
Handle: RePEc:nbr:nberwo:6094
Note: EFG ME
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  1. Hamilton, James D., 1987. "Monetary factors in the great depression," Journal of Monetary Economics, Elsevier, vol. 19(2), pages 145-169, March.
  2. Robert A. Margo, 1992. "Employment and Unemployment in the 1930s," NBER Working Papers 4174, National Bureau of Economic Research, Inc.
  3. Robert Townsend, 1979. "Optimal contracts and competitive markets with costly state verification," Staff Report 45, Federal Reserve Bank of Minneapolis.
  4. Cooper, Russell & John, Andrew, 1988. "Coordinating Coordination Failures in Keynesian Models," The Quarterly Journal of Economics, MIT Press, vol. 103(3), pages 441-63, August.
  5. Satyajit Chatterjee & Russell W. Cooper & B. Ravikumar, 1993. "Strategic complementarity in business formation: aggregate fluctuations and sunspot equilibria," Working Papers 93-9, Federal Reserve Bank of Philadelphia.
  6. Bryant, John, 1987. "The Paradox of Thrift, Liquidity Preference and Animal Spirits," Econometrica, Econometric Society, vol. 55(5), pages 1231-35, September.
  7. Boyd, John H. & Prescott, Edward C., 1986. "Financial intermediary-coalitions," Journal of Economic Theory, Elsevier, vol. 38(2), pages 211-232, April.
  8. Chatterjee, S. & Corbae, D., 1990. "Endogenous Market Participation and the General Equelibrium Value of Money," Working Papers 90-30a, University of Iowa, Department of Economics.
  9. Lawrence J. Christiano & Martin Eichenbaum, 1992. "Liquidity Effects and the Monetary Transmission Mechanism," NBER Working Papers 3974, National Bureau of Economic Research, Inc.
  10. Diamond, Douglas W, 1984. "Financial Intermediation and Delegated Monitoring," Review of Economic Studies, Wiley Blackwell, vol. 51(3), pages 393-414, July.
  11. Bernanke, Ben & Gertler, Mark, 1989. "Agency Costs, Net Worth, and Business Fluctuations," American Economic Review, American Economic Association, vol. 79(1), pages 14-31, March.
  12. Bernanke, Ben S, 1983. "Nonmonetary Effects of the Financial Crisis in Propagation of the Great Depression," American Economic Review, American Economic Association, vol. 73(3), pages 257-76, June.
  13. Russell Cooper & Joao Ejarque, 1995. "Financial Intermediation and The Great Depression: A Multiple Equilibrium Interpretation," NBER Working Papers 5130, National Bureau of Economic Research, Inc.
  14. Freeman, Scott, 1988. "Banking as the Provision of Liquidity," The Journal of Business, University of Chicago Press, vol. 61(1), pages 45-64, January.
  15. Azariadis, Costas & Smith, Bruce, 1998. "Financial Intermediation and Regime Switching in Business Cycles," American Economic Review, American Economic Association, vol. 88(3), pages 516-36, June.
  16. Fulghieri, Paolo & Rovelli, Riccardo, 1998. "Capital markets, financial intermediaries, and liquidity supply," Journal of Banking & Finance, Elsevier, vol. 22(9), pages 1157-1180, September.
  17. Cooper, Russell & Ejarque, Joao, 1995. "Financial intermediation and the Great Depression: a multiple equilibrium interpretation," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 43(1), pages 285-323, December.
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