The impact of a financial market crisis on the real side of the economy have long been studied. Extensive work has been undertaken to understand the Asian currency and financial crises in the years 1997/8 as well as the stock market meltdown after the burst of the IT asset price bubble. Yet, the current financial crisis is less well understood. It seems to be neither a financial crisis triggered by a currency run, nor by the burst ofa technology bubble, but rather a crisis originating in the financial market in one of the most advanced countries of the world economy, the US.
It appears to have resulted from two driving forces: macroeconomic changes (low interest rates, high liquidity, easy credit, and external imbalance) and the use of new financialinnovati ons which substantially contributed to increase leverage and drive up asset prices. Yet, conclusive studies on the recent financial market meltdown are still missing.
The financial crisis starting in the US subprimesector, has spread worldwide as a great recession. A hyperactive monetary and fiscal policy since the end of 2007 has aimed at preventinga further financial meltdown in the advanced countries. Some observers maintain that a slow recovery appears to be on the horizon. Yet, it is worthwhile exploring the fragility and potentially destabilizing feedbacks of advancedmacroeconomies in the context of Keynesian macro models. Further macroeconomic work is needed. As the history of macroeconomic dynamics and business cycles-which recently have been developed as boom-bust cycles-has taught us, fragilities and destabilizing feedbacks are known to be potential features of all markets-the product markets, the labor market, and the financial markets.
In this paper we in particular will focus on the financial market. We use a Tobin-like macroeconomic portfolio approach, coupled with the interaction of heterogeneous agents on the financial market, to characterize the potential for financial market instability.
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Real-Financial Market Interactions and Macroeconomic Stabilization Policies
