Inequality and Financial Stability in an Agent-Based Model

by Thomas Fischer

Institution: Technische Universit├Ąt Darmstadt
Department: Fachbereich Rechts- und WirtschaftswissenschaftenVolkswirtschaftliche FachgebieteMacroeconomics and Financial Markets
Degree: PhD
Year: 2015
Record ID: 1101565
Full text PDF: http://tuprints.ulb.tu-darmstadt.de/4536/


The dissertation "Inequality and Financial Stability in an Agent-Based Model" considers the effect of inequality on financial stability by means of an Agent-Based model. In section 2, an overview of the theoretical and the empirical literature of the subject is provided. In particular, the recent financial crisis is displayed. In the context of rising inequality, a bust in real estate markets emerged, which also witnessed the participation of low-income households due to deteriorating lending standards. The increased disparity of current accounts can also be partly attributed to the increased inequality. While the increased deficits in the USA and the European periphery result to a large extent from the increased import of credit for low-income individuals, the increased surpluses of China and Germany can be partly rationalized by means of a savings glut of high-income households. Section 3 provides an overview of the theoretical literature dealing with this subject. This overview differentiates between several strands of literature ranging including literature from the field of Post-Keynesian theory. In particular, Heterogeneous Agent Models - an extension of classical growth models with heterogeneous agents - are contrasted with Agent-Based Models (ABMs). The latter category - also used in this work - differentiates especially due to the assumption of behavioral decision rules and the discussion of non-linear complex dynamics. Section 4 provides a literature overview on the consumption and savings decision, building the theoretical foundation of our model. Besides pointing to the most important determinants, the question under which conditions debt can be sustainable is considered. In the context of inequality, the Relative Income Hypothesis is of utter importance as it predicts that individual level of consumption depends on the consumption level of other agents. The underlying model is derived and discussed in section 5. The key ingredients are the consumption/savings decisions and the trading rules in a market for durables. Based on a slightly simplified model, closed-form conditions for financial stability are derived and interpreted. In particular, inequality of income contributes to increased financial instability. The latter category can be further decomposed into instability of debt and of durable markets. Moreover, we present the closed-form relationships between stock and flow variables and the resulting impacts on the interaction between personal and functional distribution of income as well as the interaction between income and wealth inequality. The complex model dynamics can only be totally captured by means of numerical simulations (section 6). An important factor driving the aggregate dynamics is the concrete form of delveraging taken by over-indebted households being either in the form of massive consumption decreases (Austerity) or fire sales of durables both feeding back to other households. The goodness of the model is evaluated by its ability to reproduce stylized facts, while…