Speculative Growth: Hints from the Us Economy

52 Pages Posted: 8 Jun 2004 Last revised: 29 Sep 2010

See all articles by Ricardo J. Caballero

Ricardo J. Caballero

Massachusetts Institute of Technology (MIT) - Department of Economics; National Bureau of Economic Research (NBER)

Emmanuel Farhi

Harvard University - Department of Economics; National Bureau of Economic Research (NBER)

Mohamad L. Hammour

Ecole Normale Superieure (ENS); Centre for Economic Policy Research (CEPR)

Multiple version iconThere are 2 versions of this paper

Date Written: May 2004

Abstract

We propose a framework for understanding recurrent historical episodes of vigorous economic expansion accompanied by extreme asset valuations, as exhibited by the U.S. in the 1990s. We interpret this phenomenon as a high-valuation equilibrium with a low effective cost of capital based on optimism about the future availability of funds for investment. The key to the sustainability of such an equilibrium is feedback from increased growth to an increase in the supply of effective funding. We show that such feedback arises naturally when an expansion comes with technological progress in the capital producing sector, when fiscal rules generate sustained fiscal surpluses, when the rest of the world has lower expansion potential, and when financial constraints are relaxed by the expansion itself. Arguably, these ingredients were all simultaneously present in the U.S. during the 1990s. We also show that such expansions can be welfare improving but they can crash. The latter is more likely if bubbles develop along the expansionary path. These (rational) bubbles can emerge even when the interest rate exceeds the rate of growth of the economy.

Suggested Citation

Caballero, Ricardo J. and Farhi, Emmanuel and Hammour, Mohamad L., Speculative Growth: Hints from the Us Economy (May 2004). NBER Working Paper No. w10518. Available at SSRN: https://ssrn.com/abstract=552313

Ricardo J. Caballero (Contact Author)

Massachusetts Institute of Technology (MIT) - Department of Economics ( email )

50 Memorial Drive
Building E52-528
Cambridge, MA 02142
United States
617-253-0489 (Phone)
617-253-1330 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Emmanuel Farhi

Harvard University - Department of Economics ( email )

1875 Cambridge Street
Cambridge, MA 02138
United States

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Mohamad L. Hammour

Ecole Normale Superieure (ENS) ( email )

48, Boulevard Jourdan
Ecole Normale Superieure
75014 Paris
France
+33 143 136 305 (Phone)

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Register to save articles to
your library

Register

Paper statistics

Downloads
33
Abstract Views
1,033
PlumX Metrics