Three Essays on Macroeconomic Implications of Contemporary Financial Intermediation

Book excerpt: This dissertation contributes to the growing literature on macroeconomic models with a financial intermediary sector. The first two chapters use the circuit of capital modeling methodology to study the relation between growth and profitability in capitalist economy where credit is essential, and the third uses a more standard macrodynamic model to investigate how securitized banking, which relies on short-term collateralized borrowing, as opposed to traditional commercial banking, generates procyclical bank leverage, which in turn leads to supply-led fluctuation in credits and ultimately to a boom-bust cycle of asset prices. In chapter 1, I extend the baseline model of circuit of capital to incorporate a profit-making financial capitalist sector and the associated financial variables. The extended model is examined to see how the main findings of the existing literature regarding growth, profitability, and credits are modified. It is shown that once finance is explicitly incorporated, the Cambridge equation-type result is modified in a way that relates growth to net return on equity of a firm sector, not to the latter's gross profit rate; hence, leverage ratio of the firm sector and the bank profitability, which is determined in line with interest rates, become crucial variables. In chapter 2, by relying on the extended circuit of capital model, I propose a new categorization for growth theory that characterizes financial aspects of growth, i.e. firm leverage-led vs. bank leverage-led growth. When the growth is led by firm leverage, on the one hand, growth does not face any upper bound while it stimulates excess demand for bank credits and hence is accompanied by a rise in the interest rates. On the other hand, when the growth is led by bank leverage, growth faces some upper bound but it stimulates excess supply of bank credits and consequently is accompanied by a fall in the interest rate. Chapter 3 draws upon the recent empirical finding on procyclical bank leverage and makes a contribution to the related literature in two directions. First, I build a one-period banking model of repurchase agreement to show that repo transactions motivate borrowers to manage their leverage procyclically due to counter-party risks and collateral value risks involved in the transactions. Second, with this result as a microfoundation, I build a macrodynamic model, which reveals the logic underlying persistent boom-bust cycles observed in the securitized banking system.