A Macroeconomic Model with a Financial Sector

National Bank of Belgium Working Paper No. 236

75 Pages Posted: 14 Oct 2012

See all articles by Markus K. Brunnermeier

Markus K. Brunnermeier

Princeton University - Department of Economics

Yuliy Sannikov

Princeton University

Date Written: April 8, 2012

Abstract

This paper studies the full equilibrium dynamics of an economy with financial frictions. Due to highly non-linear amplification effects, the economy is prone to instability and occasionally enters volatile episodes. Risk is endogenous and asset price correlations are high in down turns. In an environment of low exogenous risk experts assume higher leverage making the system more prone to systemic volatility spikes - a volatility paradox. Securitization and derivatives contracts leads to better sharing of exogenous risk but to higher endogenous systemic risk. Financial experts may impose a negative externality on each other and the economy by not maintaining adequate capital cushion.

Suggested Citation

Brunnermeier, Markus Konrad and Sannikov, Yuliy, A Macroeconomic Model with a Financial Sector (April 8, 2012). National Bank of Belgium Working Paper No. 236. Available at SSRN: https://ssrn.com/abstract=2160894 or http://dx.doi.org/10.2139/ssrn.2160894

Markus Konrad Brunnermeier (Contact Author)

Princeton University - Department of Economics ( email )

Bendheim Center for Finance
Princeton, NJ
United States
609-258-4050 (Phone)
609-258-0771 (Fax)

HOME PAGE: http://www.princeton.edu/¡­markus

Yuliy Sannikov

Princeton University ( email )

22 Chambers Street
Princeton, NJ 08544-0708
United States

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