Inequality, Leverage, and Crises

The paper studies how high household leverage and crises can be caused by changes in the income distribution. Empirically, the periods 1920–1929 and 1983–2008 both exhibited a large increase in the income share of high-income households, a large increase in debt leverage of low- and middle-income households, and an eventual financial and real crisis. The paper presents a theoretical model where higher leverage and crises are the endogenous result of a growing income share of high-income households. The model matches the profiles of the income distribution, the debt-to-income ratio and crisis risk for the three decades preceding the Great Recession. (JEL D14, D31, D33, E32, E44, G01, N22)

• EA
  Economic and Social Research Council

  Award: ES/L500343/1