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Seoul Journal of Economics
[ Article ]
Seoul Journal of Economics - Vol. 23, No. 4, pp.491-532
ISSN: 1225-0279 (Print)
Print publication date 30 Nov 2010
Received 21 Feb 2010 Revised 24 Jul 2010 Accepted 26 Jul 2010

Business Cycles and Leverage in Collateral Constraints

Won Jun Nah
Assistant Professor, School of Economics and Trade, Kyungpook National University, 1370 Sankyuk-Dong, Buk-Gu, Daegu 702-701, Korea, Tel: +82-53-950-7423, Fax: +82-53-950-5407 wjnah@knu.ac.kr

JEL Classification: E22, E32, E37, E44

Abstract

This paper develops a simple dynamic stochastic general equilibrium model with collateral constraints to explore the business cycle implications of financial leverage. From the model-based experiments, the degree of leverage is shown to be an important factor in amplifying the effects of collateral constraints. This finding suggests that financial leverage may affect the real economy in nonneutral ways in the course of business fluctuations. Moreover, instead of the interactions between investment and collateral price, the endogenous accumulation of collateral asset is shown to be an alternative channel through which the business cycle effects of the collateral constraints are generated. From the model simulations, we find it difficult to have both significant amplification and significant persistence at the same time. This is due to the different response patterns of investment and consumption, which are consistent with the intertemporal optimizing behaviors.

Keywords:

Credit cycles, Collateral constraints, Financial leverage, Amplification, Persistence

Acknowledgments

I would like to express my sincere gratitude to Professor Young Sik Kim (Seoul National University) for his generosity and constant support. This research was supported by Kyungpook National University Research Fund, 2009.

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