The Macroeconomics of Financial Speculation

Alp Simsek

No 28426, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: I review the literature on financial speculation driven by belief disagreements from a macro- economics perspective. To highlight unifying themes, I develop a stylized macroeconomic model that embeds several mechanisms. With short-selling constraints, speculation can generate over- valuation and speculative bubbles. Leverage can substantially inflate speculative bubbles and leverage limits depend on perceived downside risks. Shifts in beliefs about downside tail scenarios can explain the emergence and the collapse of leveraged speculative bubbles. Speculative bubbles are related to rational bubbles, but they match better the empirical evidence on the predictability of asset returns. Even without short-selling constraints, speculation induces pro- cyclical asset valuation. When speculation affects the price of aggregate assets, it also influences macroeconomic outcomes such as aggregate consumption, investment, and output. Speculation in the boom years reduces asset prices, aggregate demand, and output in the subsequent recession. Macroprudential policies that restrict speculation in the boom can improve macroeconomic stability and social welfare.

JEL-codes: E00 E12 E21 E22 E32 E44 E50 E70 G00 G01 G11 G12 G40 (search for similar items in EconPapers)
Date: 2021-02
New Economics Papers: this item is included in nep-fdg, nep-mac and nep-pke
Note: AP CF EFG IFM ME
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Citations: View citations in EconPapers (12)

Published as Alp Simsek, 2021. "The Macroeconomics of Financial Speculation," Annual Review of Economics, vol 13(1), pages 335-369.

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