Price dynamics, financial fragility and aggregate volatility

Within a general equilibrium framework à la (Long and Plosser, 1983), we investigate the dynamics emerging from the interactions of households and firms that are adaptive price setters and financially constrained. Adaptive price-setting behavior induces micro-founded out-of-equilibrium dynamics along which agents become heterogeneous in terms of prices and wealth. The stringency of the financial constraints determines the regime into which the model settles: either an equilibrium one or a disequilibrium one conductive to financial fragility and aggregate volatility. In this setting, we investigate how the structure of the production network affects the emergence of aggregate volatility from micro-level price and financial shocks, hence providing a dynamical counterpart to recent results of Acemoglu et al. (2012).