With additional enforcement mechanisms,does Collateral avoid Ponzi Schemes ?
In infinite horizon incomplete market economies, Ponzi schemes are avoided and equilibrium exists when collateral repossession is the only mechanism enforcing borrowers not to entirely default on their promises. In these economies, we add default enforcement mechanisms that are effective, i.e. induce payments besides the value of collateral guarantees. We prove that, independently of prices, the individual’s problem does not have a physically feasible solution when collateral guarantees are not large enough relative to the effectiveness of the additional enforcement mechanisms. We also show that this result does not depend on specific types of such mechanisms, as long as they are effective.
|Date of creation:||Jul 2007|
|Date of revision:||Apr 2008|
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- Steinert, Mariano & Torres-Martinez, Juan Pablo, 2007. "General equilibrium in CLO markets," Journal of Mathematical Economics, Elsevier, vol. 43(6), pages 709-734, August.
- Páscoa, Mário Rui & Seghir, Abdelkrim, 2009. "Harsh default penalties lead to Ponzi schemes," Games and Economic Behavior, Elsevier, vol. 65(1), pages 270-286, January.
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