Endogenous Debt Constraints in Lifecycle Economies

Costas Azariadis and Luisa Lambertini

The Review of Economic Studies, 2003, vol. 70, issue 3, 461-487

Abstract: We characterize competitive equilibria with perfect foresight in a deterministic, three-period pure-exchange overlapping generations economy with perfect information and no commitment to loan contracts. Commitment is replaced by an enforcement mechanism that excludes defaulters from asset markets for one period. For hump-shaped endowment profiles, young individuals face endogenous debt constraints that ration current consumption. Changes in current and future yields affect these constraints, inducing an additional income effect on rationed household demand that makes current and future consumption complements. This mechanism can lead to multiple steady states, persistent indeterminacy and regime switching. We show that sensitivity to shocks and complex dynamic behaviour are consistent with endogenous debt limits but not with exogenous liquidity constraints. Copyright 2003, Wiley-Blackwell.

Date: 2003
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