Prices, debt and market structure in an agent-based model of the financial market

Thomas Fischer and Jesper Riedler

Journal of Economic Dynamics and Control, 2014, vol. 48, issue C, 95-120

Abstract: We develop an agent-based model in which heterogeneous and boundedly rational agents interact by trading a risky asset at an endogenously set price. Agents are endowed with balance sheets comprising the risky asset as well as cash on the asset side and equity capital as well as debt on the liabilities side. A number of findings emerge when simulating the model: we find that the empirically observable log-normal distribution of bank balance sheet size naturally emerges and that higher levels of leverage lead to a greater inequality among agents. Furthermore, greater leverage increases the frequency of bankruptcies and systemic events. Credit frictions, which we define as the stickiness of debt adjustments, are able to explain a key difference in the relation between leverage and assets observed for different bank types. Lowering credit frictions leads to an increasingly procyclical behavior of leverage, which is typical for investment banks. Nevertheless, the impact of credit frictions on the fragility of the model financial system is complex. Lower frictions do increase the stability of the system most of the time, while systemic events become more probable. In particular, we observe an increasing frequency of severe liquidity crises that can lead to the collapse of the entire model financial system.

Keywords: Agent-based model; Financial markets; Leverage; Systemic risk; Credit frictions (search for similar items in EconPapers)
JEL-codes: C63 D53 D84 (search for similar items in EconPapers)
Date: 2014
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (19)

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Related works:
Working Paper: Prices, debt and market structure in an agent-based model of the financial market (2014)
Working Paper: Prices, Debt and Market Structure in an Agent-Based Model of the Financial Market (2012)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:dyncon:v:48:y:2014:i:c:p:95-120

DOI: 10.1016/j.jedc.2014.08.013

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