Asset Bubbles, Entrepreneurial Risks, and Economic Growth

Abstract

Entrepreneurs are exposed to large uninsured risks. The risks may discourage them from creating productive assets. This may generate a productive asset shortage and stimulate demand for speculative bubbles. We introduce entrepreneurial risks into a textbook growth model with infinitely lived agents. In our model, entrepreneurs face no credit constraints. If the degree of entrepreneurial risks is in the middle range, bubbles are likely to emerge. If the degree of entrepreneurial risks is high, bubbles promote growth because bubbles work as a buffer for the risks. Otherwise, bubbles lower growth. The effect of the collapse of bubbles also depends on the degree of the risks. Moreover, asset bubbles amplify fundamental shocks.