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Asset bubbles, economic growth, and a self-fulfilling financial crisis: a dynamic general equilibrium model of infinitely lived heterogeneous agents

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  • Kunieda, Takuma
  • Shibata, Akihisa

Abstract

We develop a dynamic general equilibrium growth model with infinitely lived heterogeneous agents to describe a self-fulfilling financial crisis accompanied by an asset bubble burst as a rational expectations equilibrium. Because of financial market imperfections, asset bubbles appear under mild parameter conditions even though we assume infinitely lived agents. Although these bubbles have both a crowd-in liquidity effect and a crowd-out effect on investment, the former effect always dominates the latter. Thus, a self-fulfilling financial crisis accompanied by an asset bubble burst results in an economic recession. This phenomenon is consistent with empirical observations on financial crises in the existing literature. In addition, we present an effective government policy to avoid self-fulfilling financial crises.

Suggested Citation

  • Kunieda, Takuma & Shibata, Akihisa, 2012. "Asset bubbles, economic growth, and a self-fulfilling financial crisis: a dynamic general equilibrium model of infinitely lived heterogeneous agents," MPRA Paper 37309, University Library of Munich, Germany.
  • Handle: RePEc:pra:mprapa:37309
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    References listed on IDEAS

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    More about this item

    Keywords

    Crowd-in effect of bubbles; Financial market imperfections; Sunspots; Self-fulfilling financial crisis; Economic growth;
    All these keywords.

    JEL classification:

    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy

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