Monotone Games with Positive Spillovers

monotone games; positive spillovers; efficiency; subgame perfect equilibrium; voluntary contribution games

Markov Equilibria in Dynamic Matching and Bargaining Games

Rubinstein and Wolinsky (1990) show that a simple homogeneous market with exogenous matching has continuum of (non-competitive) perfect equilibria, but the unique Markov perfect equilibrium is competitive. By contrast, in the more general case of heterogeneous markets, we show there exists a continuum of (non-competitive) Markov perfect equilibria. However, a refinement of the Markov property, which we call monotonicity, does suffice to guarantee perfectly competitive equilibria, if, and only if, it is monotonic. The monotonicity property is closely related to the concept of Nash equilibrium with complexity costs

Diversity of Opinion and Financing of New Technologies

The objective is to compare the effectiveness of financial markets and financial intermediaries in financing new industries and technologies in the presence of diversity of opinion. In markets, investors become informed about the details of the new industry or technology and make their own investment decisions. In intermediaries, the investment decision is delegated to a manager. She is the only one who needs to become informed, which saves on information costs, but investors may anticipate disagreement with her and be unwilling to provide funds. Financial markets tend to be superior when there is significant diversity of opinion and information is inexpensive.

Optimal Financial Crises

Empirical evidence suggests that banking panics are a natural outgrowth of the business cycle. In other words panics are not simply the result of "sunspots" or self-fulfilling prophecies. Panics occur when depositors perceive that the returns on the bank's assets are going to be unusually low. In this paper we develop a simple model of this type of panic. In this setting bank runs can be incentive-efficient: they allow more efficient risk sharing between depositors who withdraw early and those who withdraw late and they allow banks to hold more efficient portfolios. Central bank intervention to eliminate panics can lower the welfare of depositors. However there is a role for the central bank to prevent costly liquidation of real assets by injecting money into the banking system during a panic.

Asset Price Bubbles and Stock Market Interlinkages

The eect of stock market interlinkages on asset price bubbles are considered. Bubbles can occur when there is an agency problem between banks and the people they lend money to because the banks cannot observe how the funds are invested. This causes a risk shifting problem and asset prices are bid up above their fundamental. The greater is uncertainty about asset returns or about the amount of aggregate credit the greater is the bubble. Stock market interlinkages can moderate or exacerbate asset price bubbles.

Diversity of Opinion and Financing of New Technologies

The objective is to compare the effectiveness of financial markets and financial intermediaries in financing new industries and technologies in the presence of diversity of opinion. In markets, investors become informed about the details of the new industry or technology and make their own investment decisions. In intermediaries, the investment decision is delegated to a manager. She is the only one who needs to become informed, which saves on information costs, but investors may anticipate disagreement with her and be unwilling to provide funds. Financial markets tend to be superior when there is significant diversity of opinion and information is inexpensive.Diversity of opinion; investment; financial markets; financial intermediaries; delegation; Bayesian decision making; uncommon priors

Financial Contagion

contagion; bank runs; banking; financial crisis

Financial Fragility, Liquidity and Asset Prices

A financial system is fragile if a small shock has a large effect. Sunspot equilibria, where the endogenous variables depend on extrinsic uncertainty, provide an extreme illustration. However, fundamental equilibria, where outcomes depend only on intrinsic uncertainty, can also be fragile. We study the relationship between sunspot equilibria and fundamental equilibria in a model of financial crises. The amount of liquidity is endogenously chosen and determines asset prices. The model has multiple equilibria, but only some of these are the limit of fundamental equilibria when the fundamental uncertainty becomes vanishingly small. We show that under certain conditions the only robust equilibria are those in which extrinsic uncertainty gives rise to asset price volatility and Þnancial crises.

Financial Markets, Intermediaries and Intertemporal Smoothing

The return of assets that are traded on financial markets are more volatile than the returns offered by intermediaries such as banks and insurance companies. This suggests that individual investors are exposed to more risk in countries which rely heavily on financial markets. In the absence of a complete set of Arrow-Debreu securities, there may be a role for institutions that can smooth asset returns over time. In this paper, we consider one such mechanism. We present an example of an overlapping generations economy in which the incompleteness of financial markets leads to underinvestment in reserves. There exist allocations where by building up large reserves it is possible to smooth asset returns and eliminate non-diversifiable risk. This allows an ex ante Pareto improvement. We then argue that a long-lived intermediary may be able to implement this type of smoothing. However, the position of the intermediary is fragile; competition from financial markets can cause the intertemporal smoothing mechanism to unravel, in which case the intermediary will do no better than the market.