FINANCIAL FRAGILITY, MULTIPLE EQUILIBRIA AND ECONOMIC CYCLES

Abstract

The aim of this work is to present a theoretical model of financial fragility, in which the money supply is partly generated endogenously by banks, the cash flow of firms is explicitly considered, the monetary policy is endogenous as well as the banks’ mark-up rate, which influences their loan interest rates. Financial fragility emerges in the upward phase of the economic cycle when the perception of risk declines at the same time as the level of debt considered critical by banks is relaxed. As this happens, the economic system, in its adjustment trajectory, may assume a dynamic that takes it from the Hedge region to the Speculative region and then to the Ponzi region, thus beginning the decreasing phase of the cycle. A series of retroactive effects arise with multiple equilibria results, according to the Minskian perspective.