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Leverage and Asset Prices: An Experiment

Author

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  • Ana Fostel

    (Institute for International Economic Policy, George Washington University)

Abstract

This is the first paper to test the asset pricing implication of leverage in a laboratory. We show that as theory predicts, leverage increases asset prices: when an asset can be used as collateral (i.e., when the asset can be bought on margin), its price goes up. This increase is significant, and quantitatively close to what theory predicts. However, important deviations from the theory arise in the laboratory. First, the demand for the asset shifts when it can be used as a collateral, even though agents do not exhaust their purchasing power when collateralized borrowing is not allowed. Second, the spread between collateralizable and non-collateralizable assets does not increase during crises in contrast to what theory predicts.

Suggested Citation

  • Ana Fostel, 2012. "Leverage and Asset Prices: An Experiment," Working Papers 2012-1, The George Washington University, Institute for International Economic Policy.
    • Handle: RePEc:gwi:wpaper:2012-1
    as

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    File URL: http://www.gwu.edu/~iiep/assets/docs/papers/CFH2012_2_07_WP.pdf
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    References listed on IDEAS

    as
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    3. Vernon L. Smith, 1962. "An Experimental Study of Competitive Market Behavior," Journal of Political Economy, University of Chicago Press, vol. 70(3), pages 322-322.
    4. Nicolae Gârleanu & Lasse Heje Pedersen, 2011. "Margin-based Asset Pricing and Deviations from the Law of One Price," The Review of Financial Studies, Society for Financial Studies, vol. 24(6), pages 1980-2022.
    5. John Geanakoplos & Ana Fostel, 2008. "Leverage Cycles and the Anxious Economy," American Economic Review, American Economic Association, vol. 98(4), pages 1211-1244, September.
    6. Urs Fischbacher, 2007. "z-Tree: Zurich toolbox for ready-made economic experiments," Experimental Economics, Springer;Economic Science Association, vol. 10(2), pages 171-178, June.
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    Cited by:

    1. Sean Crockett, 2013. "Price Dynamics In General Equilibrium Experiments," Journal of Economic Surveys, Wiley Blackwell, vol. 27(3), pages 421-438, July.
    2. Bengui, Julien & Phan, Toan, 2018. "Asset pledgeability and endogenously leveraged bubbles," Journal of Economic Theory, Elsevier, vol. 177(C), pages 280-314.

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    More about this item

    Keywords

    Leverage; Asset Pricing; Experimental Economics;
    All these keywords.

    JEL classification:

    • A10 - General Economics and Teaching - - General Economics - - - General
    • C90 - Mathematical and Quantitative Methods - - Design of Experiments - - - General
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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