American Economic Review: Vol. 98 No. 4 (September 2008)


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Leverage Cycles and the Anxious Economy

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Fostel, Ana, and John Geanakoplos. 2008. "Leverage Cycles and the Anxious Economy." American Economic Review, 98(4): 1211-44.

DOI: 10.1257/aer.98.4.1211


We provide a pricing theory for emerging asset classes, like emerging markets, that are not yet mature enough to be attractive to the general public. We show how leverage cycles can cause contagion, flight to collateral, and issuance rationing in a frequently recurring phase we call the anxious economy. Our model provides an explanation for the volatile access of emerging economies to international financial markets, and for three stylized facts we identify in emerging markets and high yield data since the late 1990s. Our analytical framework is a general equilibrium model with heterogeneous agents, incomplete markets, and endogenous collateral, plus an extension encompassing adverse selection. (JEL D53, G12, G14, G15)

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Fostel, Ana (George Washington U)
Geanakoplos, John (Yale U and Santa Fe Institute)

JEL Classifications

D53: General Equilibrium and Disequilibrium: Financial Markets
G12: Asset Pricing; Trading volume; Bond Interest Rates
G14: Information and Market Efficiency; Event Studies
G15: International Financial Markets

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