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Prices, Debt and Market Structure in an Agent-Based Model of the Financial Market

Fischer, Thomas and Riedler, Jesper (2012):
Prices, Debt and Market Structure in an Agent-Based Model of the Financial Market.
In: ZEW Discussion Papers, (12-045), [Online-Edition: http://ftp.zew.de/pub/zew-docs/dp/dp12045.pdf],
[Article]

Abstract

We develop an agent-based model in which heterogenous and boundedly rational agents interact by trading a risky asset at an endogenously set price. Agents are endowed with balance sheets comprising the risky asset as well as cash on the asset side and equity capital as well as debt on the liabilities side. The introduction of balance sheets and debt into an agent-based setup is relatively new to the literature and allows us to tackle several research questions that are mostly inaccessible following conventional methodology, especially representative agent models. A number of findings emerge when simulating the model. We find that the empirically observable log-normal distribution of bank balance sheet size naturally emerges and that higher levels of leverage lead to a greater inequality among agents. When further analyzing the relationship between leverage and balance sheets, we observe that decreasing credit frictions result in an increasingly procyclical behavior of leverage, which is typical for investment banks. We show how decreasing credit frictions increase volatility but decrease the number of bankruptcies.

JEL classification: C63 - D53 - D84

Item Type: Article
Erschienen: 2012
Creators: Fischer, Thomas and Riedler, Jesper
Title: Prices, Debt and Market Structure in an Agent-Based Model of the Financial Market
Language: English
Abstract:

We develop an agent-based model in which heterogenous and boundedly rational agents interact by trading a risky asset at an endogenously set price. Agents are endowed with balance sheets comprising the risky asset as well as cash on the asset side and equity capital as well as debt on the liabilities side. The introduction of balance sheets and debt into an agent-based setup is relatively new to the literature and allows us to tackle several research questions that are mostly inaccessible following conventional methodology, especially representative agent models. A number of findings emerge when simulating the model. We find that the empirically observable log-normal distribution of bank balance sheet size naturally emerges and that higher levels of leverage lead to a greater inequality among agents. When further analyzing the relationship between leverage and balance sheets, we observe that decreasing credit frictions result in an increasingly procyclical behavior of leverage, which is typical for investment banks. We show how decreasing credit frictions increase volatility but decrease the number of bankruptcies.

JEL classification: C63 - D53 - D84

Journal or Publication Title: ZEW Discussion Papers
Number: 12-045
Divisions: 01 Department of Law and Economics
01 Department of Law and Economics > Volkswirtschaftliche Fachgebiete
01 Department of Law and Economics > Volkswirtschaftliche Fachgebiete > Fachgebiet Makroökonomie und Finanzmärkte
Date Deposited: 20 Jul 2012 15:41
Official URL: http://ftp.zew.de/pub/zew-docs/dp/dp12045.pdf
Alternative keywords:
Alternative keywordsLanguage
agent-based model - financial markets - instability - balance sheets - leverage - size distribution - credit frictionsEnglish
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