Chapter 1

On the Role of Financial Markets and Institutions

Chapter 1 considers the role played by the financial system in the economic life of a society. In general terms, a financial system allows for the income and consumption (or, in the case of firms, investment) streams of economic agents to be desynchronized; that is, made less similar, across both time periods and states of nature (uncertain events). We consider how the functioning of the financial system can have substantial consequences of the growth of an economy and for its business cycle properties.


Arrow–Debreu securities; Great Recession case; Edgeworth–Bowley box; Pareto optimal; complete financial markets; competitive equilibrium

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