Asymmetric Price Movements and Borrowing Constraints: A Rational Expectations Equilibrium Model of Crises, Contagion, and Confusion

Kathy Yuan

Journal of Finance, 2005, vol. 60, issue 1, 379-411

Abstract: This study proposes a rational expectations equilibrium model of crises and contagion in an economy with information asymmetry and borrowing constraints. Consistent with empirical observations, the model finds: (1) Crises can be caused by small shocks to fundamentals; (2) market return distributions are asymmetric; and (3) correlations among asset returns tend to increase during crashes. The model also predicts: (1) Crises and contagion are likely to occur after small shocks in the intermediate price region; (2) the skewness of asset price distributions increases with information asymmetry and borrowing constraints; and (3) crises can spread through investor borrowing constraints.

Date: 2005
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https://doi.org/10.1111/j.1540-6261.2005.00733.x

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Persistent link: https://EconPapers.repec.org/RePEc:bla:jfinan:v:60:y:2005:i:1:p:379-411

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