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We endogenize the liquidity and the quality of private assets in a tractable incomplete-market model with heterogeneous … agents. The model decomposes the convenience yield of government bond into a "liquidity premium" (flight to liquidity) and a … and bond premiums, the model reveals that a sharp reduction in the quality, instead of the liquidity, of private assets …
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We formalize the idea that the financial sector can be a source of non-fundamental risk. Households' desire to hedge against price volatility can generate price volatility in equilibrium, even absent fundamental risk. Fearing that asset prices may fall, risk-averse households demand safe assets...
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