Bubbles in Open Economies: Theory and Empirical Detection

62 Pages Posted: 21 Mar 2011 Last revised: 22 May 2015

See all articles by Henri Buchsteiner

Henri Buchsteiner

University of Cambridge

Kirill Zavodov

University of Cambridge

Date Written: May 22, 2015

Abstract

Common precursors of financial crises are credit expansion and rising leverage fueling bubbles. However, existing bubble literature under rationality lacks explanatory power, and we argue that this is partly due to an implicit focus on closed economies. In open economies, credit bubbles tend to be 'displaced' abroad, have higher incidence, be larger, and last longer. Underpricing of debt is a necessary but not a sufficient condition for risk-shifting to emerge: risk-shifting is induced only after certain leverage. We develop a simple empirical detection procedure of risk-shifting bubbles in open economies. An example of empirical detection is performed on the New Zealand-Japan country pair.

Keywords: asset price bubbles; open economy; risk-shifting; housing market

JEL Classification: D82, F30, G15, R31

Suggested Citation

Buchsteiner, Henri and Zavodov, Kirill, Bubbles in Open Economies: Theory and Empirical Detection (May 22, 2015). Available at SSRN: https://ssrn.com/abstract=1787069 or http://dx.doi.org/10.2139/ssrn.1787069

Henri Buchsteiner (Contact Author)

University of Cambridge ( email )

Trinity Ln
Cambridge, CB2 1TN
United Kingdom

Kirill Zavodov

University of Cambridge ( email )

Magdalene College
Cambridge, CB3 0AG
United Kingdom

HOME PAGE: http://www.kirillzavodov.com/

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