This paper incorporates endogenous credit constraints in a search model of unemployment. These constraints generate multiple equilibria supported by self-fulfilling beliefs. A stock market bubble exists through a positive feedback loop mechanism. The collapse of the bubble tightens the credit constraints, causing firms to reduce investment and hirings. Unemployed workers are hard to find jobs generating high and persistent unemployment. A recession is caused by shifts in beliefs, even though there is no exogenous shock to the fundamentals. JEL Classification: E24, E44, J64

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This paper incorporates endogenous credit constraints in a search model of unemployment. These constraints generate multiple equilibria supported by self-fulfilling beliefs. A stock market bubble exists through a positive feedback loop mechanism. The collapse of the bubble tightens the credit constraints, causing firms to reduce investment and hirings. Unemployed workers are hard to find jobs generating high and persistent unemployment. A recession is caused by shifts in beliefs, even though there is no exogenous shock to the fundamentals.JEL Classification: E24, E44, J64

No abstract

No abstract