Credit market dynamics: a cobweb model

Abstract

Starting from a recent model developed by Dieci and Westerhoff (Appl Math Comput 215:2011–2023, 2009; J Econ Behav Organ 75(3):461–481, 2010) enriching the classic cobweb framework based on the findings of Brock and Hommes (Econometrica 65:1059–1095, 1997; J Econ Dynam Control 22:1235–1274, 1998), an original model is set up to analyse the interactions among two types of credit markets considered from the aggregate demand side view point. The proposed model is an aggregate model for unobserved Financial Institutions which are assumed to supply credit on competitive markets and competition is due to the interest rates (i.e. prices) with respect to the corresponding contracts’ demand. Moreover these Financial Institutions can put contracts on the credit market switching over time on different types of contracts depending on expected profit differentials. Among the main characteristics of this model, the number of clients involved in the two credit markets changes over time. At any time, the density of contracts is assumed to maximize the entropy of the economic system under some constraints concerning aggregate profits where the contract profitability is defined as a function of the spread between the average price of the contracts and a measure of production costs. With reference to some model calibrations, the dynamic behaviours and the reactions of the model are investigated through the study of three shock scenarios. The promising obtained results will address further investigations to apply the proposed model to a real data base of information on Financial Institutions in Italy since 1997 to catch the dynamics of fixed and adjustable interest rate mortgages markets.