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Excessive Financing Costs in a Representative Agent Framework †

Excessive Financing Costs in a Representative Agent Framework † Abstract This paper highlights a pecuniary externality that results in excessive financing costs. Firms borrow to finance purchases of an inelastically supplied input, bidding up its price. Since higher input prices necessitate more debt obligations, this leads to an increase in intermediation costs. A quantitative interpretation of the model suggests that it is optimal to tax financial intermediation by increasing the borrowing rate by 3 percentage points. (JEL E13, E44, G21, G32, H21, H25 ) http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png American Economic Journal: Macroeconomics American Economic Association

Excessive Financing Costs in a Representative Agent Framework †

American Economic Journal: Macroeconomics , Volume 8 (2) – Apr 1, 2016

Excessive Financing Costs in a Representative Agent Framework †


VoL. 8 no. 2 EdEn: ExcEssivE Financing costs from potential distributional implications that are likely to harm some agents in the economy. In particular, a lower price of irreproducible capital will harm the owners of irreproducible capital. This paper abstracts away from any such distributional implications. Mendoza, Quadrini, and Ríos-Rull (2007) study a related question regarding the distributional implications of an increase in the interest rate in an heterogeneous agent setting with reproducible capital. Finally, it is worth noting the conceptual similarities between the pecuniary externality emphasized in this paper and the idea that commodity monies are inefficient. It is well understood that, while both fiat money and commodity money can be used to facilitate socially efficient transactions, it is cheaper to use fiat money as a medium of exchange since it is costless to produce (see Kiyotaki and Wright 1989; Ritter 1995; and Hart and Zingales 2015). If money is neutral, then reducing the costs associated with money creation is welfare improving. The private incentives for spending resources on the production of commodity money (for example, digging for gold) are always greater than the social incentives, as they do not internalize the equilibrium adjustment of the price level. Credit is similar to commodity money in that, while it facilitates efficient transactions, its production requires real resources in the form of monitoring services. Similar to commodity money, the private incentives to produce credit are excessive, since they do not internalize equilibrium price adjustments. The rest of this paper is organized as follows. Section I presents a stylized, single-period model that illustrates the mechanism. Section II embeds the mechanism in a standard representative agent framework and illustrates a role for policy in containing the costs of financial intermediation. Section III provides a quantitative interpretation of the model. Section IV...
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Publisher
American Economic Association
Copyright
Copyright © 2016 by the American Economic Association
Subject
Articles
ISSN
1945-7715
eISSN
1945-7715
DOI
10.1257/mac.20140147
Publisher site
See Article on Publisher Site

Abstract

Abstract This paper highlights a pecuniary externality that results in excessive financing costs. Firms borrow to finance purchases of an inelastically supplied input, bidding up its price. Since higher input prices necessitate more debt obligations, this leads to an increase in intermediation costs. A quantitative interpretation of the model suggests that it is optimal to tax financial intermediation by increasing the borrowing rate by 3 percentage points. (JEL E13, E44, G21, G32, H21, H25 )

Journal

American Economic Journal: MacroeconomicsAmerican Economic Association

Published: Apr 1, 2016

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