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Balance sheet recessions with information and trading frictions

Vladimir Asriyan

No 205, 2018 Meeting Papers from Society for Economic Dynamics

Abstract: Balance sheet recessions result from concentration of macroeconomic risks on the balance sheets of leveraged agents. In this paper, I argue that information dispersion about the future states of the economy combined with trading frictions in financial markets can explain why such concentration of risk may be privately but not socially optimal. I show that borrowers face a tradeoff between the insurance benefits of financing with macro contingent contracts and the rents they need to pay creditors for holding such claims. In aggregate, as borrowers sacrifice contingency in order to provide liquidity, the severity of macroeconomic fluctuations becomes endogenously linked to the magnitudes of information dispersion and trading frictions. In this setting, I study the problem of a constrained social planner and show that policies promoting both issuance and trade of contingent contracts can be Pareto improving.

Date: 2018
New Economics Papers: this item is included in nep-dge
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Working Paper: Balance Sheet Recessions with Informational and Trading Frictions (2015) Downloads
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