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Discussion Summary of "The Leverage Cycle"

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Discussion This PDF is a selecƟon from a published volume from the NaƟonal Bureau of Economic Research Volume Title: NBER Macroeconomics Annual 2009, Volume 24 Volume Author/Editor: Daron Acemoglu, Kenneth Rogoff and Michael Woodford Volume Publisher: University of Chicago Press Volume ISBN: 978‐0‐226‐00209‐5 (cloth); 978‐0‐226‐00210‐1 (paper); 0‐226‐00210‐1 (paper) Volume URL: hƩp://www.nber.org/books/acem09‐1 PublicaƟon Date: April 2010 Chapter Title: Discussion of "The Leverage Cycle" Chapter Authors: Chapter URL: hƩp://www.nber.org/chapters/c11789 Chapter pages in book: (85 ‐ 87) selling of complicated assets was actually quite difficult and rarely done. Laibson also wondered about Geanakoplos’s story of optimists running the world. In his understanding, the leading hypothesis is that it is the optimists who are responsible for the bubbles that ultimately lead to the misallocation of capital and a possible crash. He was skeptical of their treatment as “white knights” in themodel. Geanakoplos responded that his point is that the optimists are generating all of the activity in the economy; therefore, it is important for everyone that the optimists be pro- tected in someway. He also stressed that the interpretation does not have to be that the activity comes fromdifferences in optimism. For example, it could be differences in risk tolerance, so that the optimists are, instead, thought of as the entrepreneurial class. Discussion John Geanakoplos began by responding to two of the issues that the discussants raised. The first is that it is unclear how the leverage cycle in the financial sector would be linked to the rest of the economy. He reiterated his story of the existence of a small group of optimistic in- vestors who make the markets work in every area. If there is a crisis in the subprime market, they not only lose money there but also with- draw their money from other areas to put into subprime. Thus, all mar- kets will be affected. The second issue that the

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