Pledgability and Liquidity: A New Monetarist Model of Financial and Macroeconomic Activity

You may be able to download this chapter for free via the Document Object Identifier.

When limited commitment hinders credit, assets help by serving as collateral. We study models where assets differ in pledgability, and hence liquidity. Previous analyses focus on producers; we emphasize consumers. Household debt limits are determined by of having assets seized after default. The framework, which nests standard growth and asset-pricing theory, is calibrated to analyze monetary policy and financial innovation. Inflation can raise output, employment and investment, plus improve housing and stock markets. For the baseline calibration, optimal inflation is positive. Increases in pledgability can generate booms and busts in economic activity, but may still be good for welfare.