In this talk, Prof Stiglitz will present on his paper “Land Speculation, Booms, and Busts with Endogenous Phase Transitions: A Model of Economic Fluctuations with Rational Exuberance”
We develop a model of macroeconomic fluctuations with rational exuberance. Endogenous instabilities in the macroeconomic system occur in a dynamic general equilibrium model with rational expectations, with endogenous booms and busts in asset prices. There are a plethora of rational expectation equilibria trajectories driven by people’s beliefs; land prices and other key macro variables “wobble” within well-identified ranges with repeated boom- bust fluctuations. As a result of interactions between land prices and capital accumulation, the macroeconomy changes endogenously between stable and unstable states— “endogenous phase transitions” occur. There is a tipping point when land speculation reaches an unsustainable level, and bullish expectations suddenly must turn bearish, leading to an endogenous crash. We analyze the set of parameter values for which such macroeconomic fluctuations occur and show how policy interventions can affect stability. We show the robustness of the results, extending the analysis to a two-sector model with manufacturing and real estate.