We show how the timing of financial innovation might have contributed to the mortgage bubble and then to the crash of 2007-2009. We show why tranching and leverage first raised asset prices and why CDS lowered them afterward. This may seem puzzling, since it implies that creating a derivative...

The use of equilibrium models in economics springs from the desire for parsimonious models of economic phenomena that take human reasoning into account. This approach has been the cornerstone of modern economic theory. We explain why this is so, extolling the virtues of equilibrium theory; then...

Our paper provides a complete characterization of leverage and default in binomial economies with financial assets serving as collateral. Our Binomial No-Default Theorem states that any equilibrium is equivalent (in real allocations and prices) to another equilibrium in which there is no...

Our paper provides a complete characterization of leverage and default in binomial economies with financial assets serving as collateral. Our Binomial No-Default Theorem states that any equilibrium is equivalent (in real allocations and prices) to another equilibrium in which there is no...

Our paper provides a complete characterization of leverage and default in binomial economies with financial assets serving as collateral. First, our Binomial No-Default Theorem states that any equilibrium is equivalent (in real allocations and prices) to another equilibrium in which there is no...

We show that binomial economies with financial assets are an informative and tractable model to study endogenous leverage and collateral equilibrium: endogenous leverage can be highly volatile, but it is always easy to compute. The possibility of default can have a dramatic effect on...

We show that binomial economies with financial assets are an informative and tractable model to study endogenous leverage and collateral equilibrium: endogenous leverage can be highly volatile, but it is always easy to compute. The possibility of default can have a dramatic effect on...