bringing tobin back: asset price dynamics and portfolio ...grasselli/banff2014.pdfasset price...

BringingTobin back:asset price

dynamics andportfolio

selection inmacroeco-

nomics

M. R. Grasselli

Introduction

SFC models

The UltimateModel

Conclusions

Bringing Tobin back: asset price dynamics andportfolio selection in macroeconomics

M. R. Grasselli

Mathematics and Statistics - McMaster Universityand Fields Institute for Research in Mathematical Sciences

Banff, July 07, 2014




nomics

M. R. Grasselli

Introduction

SFC models

The UltimateModel

Conclusions

James Tobin’s contributions to economics

Tobin received the 1981 Nobel Memorial Prize “for hisanalysis of financial markets and their relations toexpenditure decisions, employment, production andprices”.

Well-known contributions included: foundations of modernportfolio theory (with Markowitz), in particular theSeparation Theorem (1958), life-cycle model ofconsumption, Tobit estimator, Tobin’s q, Tobin’s tax, . . .

Key forgotten contribution: financial intermediation,portfolio balances, flow of funds models and the creditchannel.




nomics

M. R. Grasselli

Introduction

SFC models

The UltimateModel

Conclusions

Tobin 1969: A General Equilibrium Approach toMonetary Theory

Specification of (i) a menu of assets, (ii) the factors thatdetermine the demands and supplies of the various assets,and (iii) the manner in which asset prices and interestrates clear these interrelated markets.

Spending decisions are (provisionally) independent fromportfolio decisions.

Each asset i has a rate of return ri and each sector j has anet demand fij for asset i .

Adding up constraint: for each rate of return rk ,

n∑i=1

∂fij∂rk

= 0.

Paper proceeds to analyze several special cases:money-capital, money-treasuries-capital, bank depositsand loans.




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model

Ponzi financingand Stock Prices

GreatModeration

The UltimateModel

Conclusions

Stock-Flow Consistent models

Stock-flow consistent models emerged in the last decadeas a common language for many heterodox schools ofthought in economics.

They consider both real and monetary factorssimultaneously.

Specify the balance sheet and transactions betweensectors.

Accommodate a number of behavioural assumptions in away that is consistent with the underlying accountingstructure.

Reject silly (and mathematically unsound!) hypothesessuch as the RARE individual (representative agent withrational expectations).

See Godley and Lavoie (2007) for the full framework.




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Balance Sheets

Balance Sheet HouseholdsFirms

Banks Central Bank Government Sum

current capital

Cash +Hh +Hb −H 0

Deposits +Mh +Mf −M 0

Loans −L +L 0

Bills +Bh +Bb +Bc −B 0

Equities +pf Ef + pbEb −pf Ef −pbEb 0

Advances −A +A 0

Capital +pK pK

Sum (net worth) Vh 0 Vf Vb 0 −B pK

Table: Balance sheet in an example of a general SFC model.




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Transactions

TransactionsHouseholds

FirmsBanks Central Bank Government Sum

current capital

Consumption −pCh +pC −pCb 0

Investment +pI −pI 0

Gov spending +pG −pG 0

Acct memo [GDP] [pY ]

Wages +W −W 0

Taxes −Th −Tf +T 0

Interest on deposits +rM .Mh +rM .Mf −rM .M 0

Interest on loans −rL.L +rL.L 0

Interest on bills +rB .Bh +rB .Bb +rB .Bc −rB .B 0

Profits +Πd + Πb −Π +Πu −Πb −Πc +Πc 0

Sum Sh 0 Sf − pI Sb 0 Sg 0

Table: Transactions in an example of a general SFC model.




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Flow of Funds

Flow of FundsHouseholds

FirmsBanks Central Bank Government Sum

current capital

Cash +Hh +Hb −H 0

Deposits +Mh +Mf −M 0

Loans −L +L 0

Bills +Bh +Bb +Bc −B 0

Equities +pf Ef + pbEb −pf Ef −pbEb 0

Advances −A +A 0

Capital +pI pI

Sum Sh 0 Sf Sb 0 Sg pI

Change in Net Worth (Sh + pf Ef + pbEb) (Sf − pf Ef + pK − pδK ) (Sb − pbEb) Sg pK + pK

Table: Flow of funds in an example of a general SFC model.




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Goodwin Model - SFC matrix


Sum

current capital

Capital +pK pK

Sum (net worth) 0 0 Vf pK

Transactions

Consumption −pC +pC 0



Wages +W −W 0

Profits −Π +Πu 0

Sum 0 0 0 0

Flow of Funds

Capital +pI pI

Sum 0 0 Πu pI

Change in Net Worth 0 pI + pK − pδK pK + pK

Table: SFC table for the Goodwin model.




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Goodwin Model - Differential equations

Define

ω =w`

pY=

w

pa(wage share)

λ =`

N=

Y

aN(employment rate)

It then follows that

ω

ω=

w

w− p

p− a

a= Φ(λ, i , ie) − i − α

λ

λ=

1 − ω

ν− α− β − δ

In the original model, all quantities were real (i.e dividedby p), which is equivalent to setting i = ie = 0.




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Example 1: Goodwin model

0.7 0.75 0.8 0.85 0.9 0.95 10.88

0.9

0.92

0.94

0.96

0.98

1

ω

λw

0 = 0.8, λ

0 = 0.9




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Testing Goodwin on OECD countries

Figure: Harvie (2000)




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Correcting Harvie

Figure: Grasselli and Maheshwari (2014, in progress)




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

SFC table for Keen (1995) model


Banks Sum

current capital

Deposits +D −D 0

Loans −L +L 0

Capital +pK pK

Sum (net worth) Vh 0 Vf 0 pK

Transactions

Consumption −pC +pC 0



Wages +W −W 0

Interest on deposits +rD −rD 0

Interest on loans −rL +rL 0

Profits −Π +Πu 0

Sum Sh 0 Sf − pI 0 0

Flow of Funds

Deposits +D −D 0

Loans −L +L 0

Capital +pI pI

Sum Sh 0 Πu 0 pI

Change in Net Worth Sh (Sf + pK − pδK ) pK + pK

Table: SFC table for the Keen model.




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Keen model - Investment function

Assume now that new investment is given by

K = κ(1 − ω − rd)Y − δK

where κ(·) is a nonlinear increasing function of profitsπ = 1 − ω − rd .

This leads to external financing through debt evolvingaccording to

D = κ(1 − ω − rd)Y − (1 − ω − rd)Y




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Keen model - Differential Equations

Denote the debt ratio in the economy by d = D/Y , the modelcan now be described by the following system

ω = ω [Φ(λ) − α]

λ = λ

[κ(1 − ω − rd)

ν− α− β − δ

](1)

d = d

[r − κ(1 − ω − rd)

ν+ δ

]+ κ(1 − ω − rd) − (1 − ω)




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Example 2: convergence to the good equilibrium ina Keen model

0.7

0.75

0.8

0.85

0.9

0.95

1

λ

ωλYd

0

1

2

3

4

5

6

7

8x 10

7

Y

0

0.2

0.4

0.6

0.8

1

1.2

1.4

1.6

1.8

2

d

0 50 100 150 200 250 300

0.7

0.8

0.9

1

1.1

1.2

1.3

time

ω

ω0 = 0.75, λ

0 = 0.75, d

0 = 0.1, Y

0 = 100

d

λ

ω

Y

Figure: Grasselli and Costa Lima (2012)




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Example 3: explosive debt in a Keen model

0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1

λ

0

1000

2000

3000

4000

5000

6000

Y

0

0.5

1

1.5

2

2.5x 10

6

d

0 50 100 150 200 250 3000

5

10

15

20

25

30

35

time

ω

ω0 = 0.75, λ

0 = 0.7, d

0 = 0.1, Y

0 = 100

ωλYd

λ

Y d

ω





nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Basin of convergence for Keen model

0.5

1

1.5

0.40.5

0.60.7

0.80.9

11.1

0

2

4

6

8

10

ωλ

d





nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Extensions

Costa Lima and Nguyen (2014) add random productivityto the Goodwin model and prove the existence ofstochastic orbits for the generalized Lotka-Volterra system.

Costa Lima, Grasselli, Wang and Wu (2014) show thatgovernment spending and taxation can prevent the badequilibrium with infinite debt and zero employment.

Choi and Grasselli (2014, in progress) characterize theGreat Moderation in the U.S. as a Shilnikov bifurcation forthe Keen model.




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Ponzi financing

To introduce the destabilizing effect of purely speculativeinvestment, we consider a modified version of the previousmodel with

D = κ(1 − ω − rd)Y − (1 − ω − rd)Y + P

P = Ψ(g(ω, d)P

where Ψ(·) is an increasing function of the growth rate ofeconomic output

g =κ(1 − ω − rd)

ν− δ.




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Example 4: effect of Ponzi financing

0 0.1 0.2 0.3 0.4 0.5 0.6 0.7 0.8 0.9 10

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1

λ

ω

ω0 = 0.95, λ

0 = 0.9, d

0 = 0, p

0 = 0.1, Y

0 = 100

No SpeculationPonzi Financing





nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Stock prices

Consider a stock price process of the form

dStSt

= rbdt + σdWt + γµtdt − γdN(µt)

where Nt is a Cox process with stochastic intensityµt = M(p(t)).

The interest rate for private debt is modelled asrt = rb + rp(t) where

rp(t) = ρ1(St + ρ2)ρ3




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Stability map

0.5

0.5

0.55

0.55

0.55

0.55

0.55

0.55

0.55

0.550.550.

55

0.6

0.6

0.6

0.6

0.6

0.6

0.6

0.6

0.65

0.65

0.65

0.65 0.65

0.65

0.65

0.65

0.7

0.7

0.7

0.7

0.7

0.75

0.75

0.8

0.8

0.85

0.85

0.5

0.55

0.55

0.55

0.6

0.6

0.55

0.6

0.55

0.50.6

0.6

0.5

0.6

0.65

0.55

0.9

0.55

0.6

0.7

0.5

0.55

0.55

0.65

0.6

0.65 0.60.7

0.7

0.65

0.8

0.6

0.6

0.6

0.60.6

0.6

0.45 0.

5

0.45

0.6

0.55

0.7

0.5

0.8

0.65

0.5

0.6

0.7

0.5

0.5

0.6

0.6

λ

d

Stability map for ω0 = 0.8, p

0 = 0.01, S

0 = 100, T = 500, dt = 0.005, # of simulations = 100

0.7 0.75 0.8 0.85 0.9 0.950

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1

0.45

0.5

0.55

0.6

0.65

0.7

0.75

0.8

0.85

0.9




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

The Great Moderation in the U.S. - 1984 to 2007

Figure: Grydaki and Bezemer (2013)




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Possible explanations

Real-sector causes: inventory management, labour marketchanges, responses to oil shocks, external balances , etc.

Financial-sector causes: credit accelerator models, financialinnovation, deregulation, better monetary policy, etc.

Grydaki and Bezemer (2013): growth of debt in the realsector.




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Bank credit-to-GDP ratio in the U.S





nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Excess credit growth moderated output volatilityduring, but not before the Great Moderation





nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Example 5: strongly moderated oscillations

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1

λ

0

500

1000

1500

2000

2500

3000

3500

Y

0

20

40

60

80

100

120

140

160

180

d

0

2

4

6

8

10

12p

0 10 20 30 40 50 60 70 80 90 1000.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

time

ω

ω0 = 0.9, λ

0 = 0.91, d

0 = 0.1, p

0 = 0.01, Y

0 = 100, κ’(π

eq) = 20

ωλYdp




nomics

M. R. Grasselli

Introduction

SFC models

Goodwin model

Keen model


GreatModeration

The UltimateModel

Conclusions

Example 5 (cont): Shilnikov bifurcation

0.450.5

0.550.6

0.650.7

0.750.8

0.850.9 0.7

0.75

0.8

0.85

0.9

0.95

1

0

2

4

6

8

10

12

λ

ω0 = 0.9, λ

0 = 0.91, d

0 = 0.1, p

0 = 0.01, Y

0 = 100, κ’(π

eq) = 20

ω

d




nomics

M. R. Grasselli

Introduction

SFC models

The UltimateModel

Inventories

Equities

Conclusions

Shortcomings of Goodwin and Keen models

No independent specification of consumption (andtherefore savings) for households:

C = W , Sh = 0 (Goodwin)

C = (1 − κ(π))Y , Sh = D = Πu − I (Keen)

Full capacity utilization.

Everything that is produced is sold.

No active market for equities.

Skott (1989) uses prices as an accommodating variable inthe short run.

Chiarella, Flaschel and Franke (2005) propose a dynamicsfor inventory and expected sales.

Grasselli and Nguyen (2014) provide a synthesis, includingequities and Tobin’s portfolio choices.




nomics

M. R. Grasselli

Introduction

SFC models

The UltimateModel

Inventories

Equities

Conclusions

Inventory dynamics

Denoting demand by Yd , expected sales by Ye andcapacity utilization by u = Y /Ymax we obtain the system

ωe =ωe [Φ(λ) − α + (1 − ηp)γ(1 −mωe)]

λ =λ [geye + gdyd − ηv − α− β]

de =de[− geye − gdyd + ηv + γ(1 −mωe) + r

]+

[κ(πe) + ηu(u − u)

u− (1 − ωe)yd

]ye =ye(α + β − ηd − geye − gdyd + ηv ) + ηdyd

u =u

[geye + gdyd − ηv −

κ(πe) + ηu(u − u)

ν+ δ

],

of which the previous model is a special case.




nomics

M. R. Grasselli

Introduction

SFC models

The UltimateModel

Inventories

Equities

Conclusions

Firm decisions

Suppose now that firms finance new investment by issuingequities E at price pe as well as new loans.

Assuming that undistributed profits take the form sf Π fora constant sf , the amount needed to be raised externallyfor new investment is pIk − sf Π, according to theproportions

D = νD [pIk − sf Π]

pe E = νE [pIk − sf Π],

with νD + νE = 1.

Here both Ik and νE can be functions of Tobin’s q = peEpK .




nomics

M. R. Grasselli

Introduction

SFC models

The UltimateModel

Inventories

Equities

Conclusions

Household decisions

On the other hand, the budget constraint for households is

W + (1 − sf )Π + rD = pC + D + pe E ,

whereas their portfolio allocation is

peE = fe(r ee )Xh

D = 1 − fe(r ee )Xh,

where

r ee =(1 − sf )Π

peE+ πee

πee = βπe

(pepe

− πee

)This leads to an extended system with two more equationsfor e/e and πee .




nomics

M. R. Grasselli

Introduction

SFC models

The UltimateModel

Conclusions

Concluding remarks

Macroeconomics is too important to be left tomacroeconomists.

Since Keynes’s death it has developed in two radicallydifferent approaches:

1 The dominant one has the appearance of mathematicalrigour (the SMD theorems notwithstanding), but is basedon implausible assumptions, has poor fit to data in general,and is disastrously wrong during crises. Finance plays anegligible role

2 The heterodox approach is grounded in history andinstitutional understanding, takes empirical work muchmore seriously, but is generally averse to mathematics.Finance plays a major role.

It’s clear which approach should be embraced bymathematical finance.




nomics

M. R. Grasselli

Introduction

SFC models

The UltimateModel

Conclusions

Thank you!

bringing tobin back: asset price dynamics and portfolio ...grasselli/banff2014.pdfasset price...

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