Masked Instability: Within-Sector Financial Risk in the Presence of Wealth Inequality

Abstract

Abstract:We investigate masked financial instability caused by wealth inequality. When an economic sector is decomposed into two subsectors that possess a severe wealth inequality, the sector in entirety can look financially stable while the two subsectors possess extreme financially instabilities of opposite nature, one from excessive equity, the other from lack thereof. The unstable subsector can result in further financial distress and even trigger a financial crisis. The market instability indicator, an early warning system derived from dynamical systems applied to agent-based models, is used to analyze the subsectoral financial instabilities. Detailed mathematical analysis is provided to explain what financial instabilities can arise amid seemingly stable economy and positive market data. The theoretical conjecture is verified by historical macroeconomic time series of the United States households among whom a substantial wealth inequality has been officially confirmed.

Economic Stimulus and Financial Instability: Recent Case of the U.S. Household

“…These subgroups are two of the classifications used by the SCF and are adopted for this study to correctly assess the financial instability and economic health of the U.S. household amid income and wealth inequality. In that sense, this work is a refinement of (Choi 2018), which shows that in the presence of severe wealth inequality, an economic sector in its entirety can look financially stable while its two subsectors possess extreme financial instabilities of opposite natures, one from excessive equity, the other from lack thereof. The income subdivision thresholds are: less than 20%, 20-39.9%, 40-59.9%, 60-79.9%, 80-89.9%, and 90-100%; the net worth ones are: less than 25%, 25-49.9%, 50-74.9%, 75-89.9%, and 90-100%.…”

Macroprudential Policy in a Heterogeneous Environment—An Application of Agent-Based Approach in Systemic Risk Modelling

“…Impact studies of macroprudential policies on the economy within the ABM approach is relatively new. However, the topic refers to the tradition of agent-based models within financial markets [73][74][75][76][77] as well as literature on credit and financial markets from the agent-based perspective [72,[78][79][80][81][82][83][84][85][86][87][88][89][90][91][92][93][94][95][96][97]. In the broader sense, the study also refers to the coevolution models successfully applied in [98,99] to explain the stylized fact of persistency in a time series.…”