If lending contracts in an economy take the form of unsecured, non-state-contingent debt, a recession will often be associated with an increase in defaults and a reduction in the supply of credit, which amplifies the contraction. Within this context, I consider the case when the length of an unfolding recession is not immediately obvious; instead, it takes people time to learn about a persistent recession. I apply this scenario to models where the unsecured credit is represented by mortgage loans extended to households and by sovereign debt extended to an emerging economy. I find that in both cases, accounting for uncertainty and learning has a potential to improve the empirical performance of the models.
Chapter 1 explores the U.S. housing market where house prices show a lot of inertia. I develop a general-equilibrium model with the market for housing and mortgages and introduce uncertainty regarding the persistence of business cycles. I show that uncertainty allows the model to better account for the sluggish dynamics of the housing market. In Chapter 2, I use key U.S. macroeconomic data to empirically estimate the structural model developed in Chapter 1. In order to compare the performance of the models with and without uncertainty, I use likelihood-based estimation methods. The model with uncertainty proves to be better capable of mimicking the long-lasting changes in house prices and other observable variables.
Chapter 3 contains a theoretical model of a small open emerging economy that looks to refinance its sovereign debt during an unfolding recession of uncertain length. A long recession implies a higher chance of default in the future; a short recession means quick recovery and solvency. Uncertainty about the unfolding scenario adds price risk to long-term bonds and makes them costly to the borrower. Investors' preferences shift towards short-term bonds which mature before a lot of the uncertainty is resolved and before credit events are likely to happen. Such uncertainty helps explain the empirical fact that emerging economies tend to borrow short term during economic downturns.
| Identifer | oai:union.ndltd.org:bu.edu/oai:open.bu.edu:2144/15413 |
| Date | 12 March 2016 |
| Creators | Rots, Eyno |
| Source Sets | Boston University |
| Language | en_US |
| Detected Language | English |
| Type | Thesis/Dissertation |
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