The Feedback between Real and Credit Markets

Abstract

The main purpose of this thesis is to extend the theoretical knowledge on the relationship between the financial and the real sectors. Speciffically, we investigate how the allocation of capital affects the dynamics of macroeconomic cycles and the long-term growth rate. Indeed, given the position of financial intermediaries between the demand and the supply of loanable funds, banks can change the market equilibrium influencing the choices of households and firms. Moreover, also the competitive pressure arising from incumbent institutions can play a major role in the definition of the final outcome. First, we develop a computational agent-based model, where the channeling of funds from savers to investors occurring through intermediaries is affected by information frictions. Since banks compete in both the deposit and the loan markets, the whole dynamics is driven by endogenous fluctuations in the size of the intermediaries balance sheet. Accordingly, the introduction of an interbank market, reducing the pressure on the liability side of banks' balance sheets, improves the performance of the system. However, the result depends on the topology of the network. Indeed, the functioning of a highly centralized financial system relies on the current state of the hub and vice-versa. Lastly, we develop a simple general equilibrium model to study the effects of financialization on aggregate growth and systemic risk. The main driver of this process is the bargaining power of intermediaries. Indeed, financial institutions, by absorbing a larger quota of income from entrepreneurs, can reduce the incentive for new firms to enter the market. As a result, both the long-term potential growth rate and the overall stability of the system can be negatively affected by an overdeveloped financial sector.