DP1604 Endogenous Cycles in a Stiglitz-Weiss Economy

Author(s):	Javier Suarez, Oren Sussman
Publication Date:	March 1997
Keyword(s):	Credit Rationing, Endogenous Cycles
JEL(s):	D82, E32, E51
Programme Areas:	Financial Economics
Link to this Page:	cepr.org/active/publications/discussion_papers/dp.php?dpno=1604

The literature on financial imperfections and business cycles has focused on propagation mechanisms. In this paper we model a pure reversion mechanism, such that the economy may converge to a two-period equilibrium cycle. This mechanism confirms that financial imperfections may have a dramatic amplification effect. Unlike some related models, contracts are complete. Indexation is not assumed away. The welfare properties of a possible stabilizing policy are analysed. The model itself is a dynamic extension of the well-known Stiglitz-Weiss model of lending under moral hazard. Although stylized, the model still captures some important features of credit cycles.