How can low consumer spending cause an inefficient recession or recovery? We propose a real theory of aggregate demand shortages that does not rely on nominal rigidities. In our theory, an economy can be demand constrained when, i) productivity in the consumption goods sector can be improved or maintained via investment, and ii) external financing of this investment is subject to a tight enough borrowing constraint. In a demand-constrained equilibrium, a savings tax increases consumption, investment in productivity, and welfare and may also increase investment in capital goods and output. We use an extension of our benchmark model to show how financial shocks can create a demand-constrained recession. Our theory suggests that fiscal rather than monetary policy might become the primary policy tool to restore the efficiency under certain conditions. Demand management policies might be necessary over a long period of time. The "potential", i.e., the constrained efficient allocation, may depend on both supply and demand factors.

It is challenging to explain the collapse in the price of subprime mortgage-backed securities (MBS) during the Financial Crisis of 2008, using the existing models of fire sale. I present a model to demonstrate that fire sales may happen even when there is a relatively sizable pool of natural buyers and in the absence of asymmetric information, due to a coordination failure among buyers: buyers’ waiting to trade at a lower price tomorrow, can lead to a collapse in the price and trade volume today. In particular, I show that when trade is decentralized and participation is endogenous, a medium level of asset demand and liquidity needs that are expected to increase over time create complementarity among buyers’ decisions to wait. This complementarity makes competitive markets prone to coordination failures and fire sales accompanied by a collapse in the trade volume. Fire sales may also be inefficient. I also discuss various policy options to eliminate the risk of fire sales in such a setup.

Classic models of fire-sales that emphasize liquidity-constrained natural buyers can-not fully account for the asset fire-sales during the Financial Crisis of 2008.I present a model to demonstrate that fire-sales may happen even when there is a sizable pool of natural buyers and in the absence of asymmetric information, due to a coordina-tion failure among buyers.In particular, I show that when trade is decentralized and participation is endogenous, constrained asset demand and liquidity needs that are ex-pected to increase over time create complementarity among buyers' decisions to wait.This complementarity makes competitive markets prone to coordination failures and fire-sales which may be inefficient.I also discuss various policy options to eliminate the risk of fire-sales in such a setup.

It is challenging to explain the collapse in the price of subprime mortgage-backed securities (MBS) during the Financial Crisis of 2008, using the existing models of fire-sale. I present a model to demonstrate that fire-sales may happen even when there is a relatively sizable pool of natural buyers and in the absence of asymmetric information, due to a coordination failure among buyers: buyers’ waiting to trade at a lower price tomorrow, can lead to a collapse in the price and trade volume today. In particular, I show that when trade is decentralized and participation is endogenous, a medium level of asset demand and liquidity needs that are ex-pected to increase over time create complementarity among buyers’ decisions to wait. This complementarity makes competitive markets prone to coordination failures and fire-sales accompanied by a collapse in the trade volume. Fire-sales may also be inefficient. I also discuss various policy options to eliminate the risk of fire-sales in such a setup. JEL Classification Numbers: G01, G12, D61, D62, D83, E44

We develop the implications of the stock–flow matching model for unemployment, vacancies, and worker flows. Workers and jobs are heterogeneous, so most worker–job pairs cannot profitably match, leading to the coexistence of unemployment and vacancies. Productivity shocks cause fluctuations in the number of jobs, which in turn cause fluctuations in other labor market variables. We derive exact expressions for employment and for worker transition rates in a finite economy and analyze their limiting behavior in a large economy. A calibrated version of the model is consistent with the observed co-movement and volatility of labor market variables.