Articles

Instabilities in large economies: aggregate volatility without idiosyncratic shocks

J. BONART, J.-P. BOUICHAUD, D. THESMAR, A. LANDIER

Journal of Statistical Mechanics: Theory and Experiment

October 2014, vol. 10, n°P10040

Departments: Finance

http://ssrn.com/abstract=2456936


We study a dynamical model of interconnected firms which allows for certain market imperfections and frictions, restricted here to be myopic price forecasts and slow adjustment of production. Whereas the standard rational equilibrium is still formally a stationary solution of the dynamics, we show that this equilibrium becomes linearly unstable in a whole region of parameter space. When agents attempt to reach the optimal production target too quickly, coordination breaks down and the dynamics becomes chaotic. In the unstable, 'turbulent' phase, the aggregate volatility of the total output remains substantial even when the amplitude of idiosyncratic shocks goes to zero or when the size of the economy becomes large. In other words, crises become endogenous. This suggests an interesting resolution of the 'small shocks, large business cycles' puzzle


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