Liquidity and asset-market dynamics

This study analyzes economies with an essential role for liquid assets in the exchange process. The model can generate multiple stationary equilibria, across which asset prices, market participation, capitalization, output and welfare are positively related. It can also generate a variety of nonstationary equilibria, even when fundamentals are deterministic and time invariant, including periodic, chaotic and stochastic (sunspot) equilibria with recurrent market crashes. Some equilibria have asset-price trajectories that resemble bubbles growing and bursting. Endogenous private and public liquidity is also introduced. Sometimes it is efficient to provide enough liquid assets to satiate demand; other times it is not.

► An economy with an essential role for liquid assets and endogenous firms' entry. ► Equilibria with bubble-like asset price trajectories. ► Multiplicity of steady states across which entry and asset prices are positively correlated. ► Nonstationary equilibria including periodic equilibria with recurrent market crashes. ► A role for public and private provision of liquidity, but scarce liquidity can be optimal.