Essays on financial markets and growth

This dissertation is composed of two theoretical essays on financial markets. The first essay is entitled On the Impact of Leverage Constraints on Asset Prices and Trading Volume and is coauthored by Jose Marin. The second essay is entitled Growth Enhancing Bubbles . The first essay shows that the positive correlation between volume and prices in US stock markets and absence thereof in US futures markets can be explained by a standard infinite horizon - perfect information - expected utility economy where some agents face leverage constraints similar to those found in today\u27s financial markets. We consider a continuous-time economy where agents maximize the integral of discounted utility from consumption under both budget and leverage constraints. Building on the work by Vila-Zariphopoulou (1994), we find a closed form solution, up to a negative constant, for the equilibrium prices and demands. We show that, at the equilibrium, the ratio of stock holdings volatility to stock price volatility is an increasing function of the stock price. We also show that leverage constraints can generate mean reversion. Finally, as a side result, we find that leverage constraints can decrease the initial stock price as well as return volatility. We briefly discuss some regulatory implications. The second essay shows that speculation on stock markets can increase the long run growth rate of an economy. I consider a continuous-time economy with overlapping generations and spillovers from aggregate capital. I prove the existence of a continuum of equilibria where speculative bubbles occur on the price of equity, and show that the steady-state growth rate can be higher in the bubbly equilibria than in the original bubbleless equilibrium. These results are consistent with empirical evidence, in particular with the finding that financial development leads to higher subsequent investment without affecting future productivity of capital (Harris, 1994)