Managing Credit Bubbles

Abstract

We study a dynamic economy where credit is limited by insu¢ cient collateral and, as a result, investment and output are too low. In this environment, changes in investor sentiment or market expectations can give rise to credit bubbles, that is, expansions in credit that are backed not by expectations of future pro…ts (i.e. fundamental collateral), but instead by expectations of future credit (i.e. bubbly collateral). During a credit bubble, there is more credit available for entrepreneurs: this is the crowding-in e¤ect. But entrepreneurs must also use some of this credit to cancel past credit: this is the crowding-out e¤ect. There is an "optimal"bubble size that trades o¤ these two e¤ects and maximizes long-run output and consumption.The "equilibrium"bubble size depends on investor sentiment, however, and it typically does not coincide with the "optimal"bubble size. This provides a new rationale for macroprudential policy.A lender of last resort can replicate the "optimal"bubble by taxing credit when the "equilibrium" bubble is too high, and subsidizing credit when the "equilibrium" bubble is too low. This leaningagainst-the-wind policy maximizes output and consumption. Moreover, the same conditions that make this policy desirable guarantee that a lender of last resort has the resources to implement it.JEL classi…cation: E32, E44, O40

Are the Liquidity and Collateral Roles of Asset Bubbles Different?

“…Our model also generalizes Martin and Ventura (2016) when b 1t = 0 and b 2t > 0 for all t. Indeed, we also have workers that provide credits (young agents in our framework) to some investors (adults in our framework), but this heterogeneity among agents comes from the three-period lifetime. In their model, the credit constraint also has two types of collateral, one related to the value of the firm and one associated to the bubble.…”

“…This model, that we call AI because adult investors buy the bubble, illustrates the collateral role of the bubble, introduced by Kocherlakota (2009), Martin and Ventura (2016), or Miao and Wang (2018). Investors buy the bubble to use it as collateral for credits that finance investment in capital.…”

Is the High Interest Rate Combined with Intense Deleveraging Campaign Desirable? A Collateral Mechanism under Stringent Credit Constraints

“…Furthermore, we also make theoretical extensions on a few pioneering studies: We augment [6] by allowing entrepreneurs and general workers to hold bubbles. We also justify the crowd-out effect of bubbles on capital accumulation in [7,8]. Infinite-horizon models, e.g., [9][10][11], focus on the effects on investment and the allocation of stock price bubbles with positive dividends.…”

“…In order to analyze the function of bubbles as extra financing assets, we consider financial frictions characterized by credit constraints consistent with that in [8]. Assume commercial banks purchase loan contracts from borrowers with limited commitment.…”

Operationof Consumer Credit Unions Under Directives Of The Bank Of Russia

“…The issues of credit cooperation were studied by Perilleux and Nyssens (2017), Martin and Ventura (2016) and Townsend (2003). In their paper, Masa Lorenzo consider the specific features of cooperative associations with special attention to their economic and financial aspects (Lorenzo, del Campo, & Lopez, 2016).…”