liquidity at risk joint stress testing of solvency and liquidity abstract the traditional approach to the stress testing of financial institutions focuses on capital adequacy and solvency liquidity stress tests have been applied in parallel to and independently from solvency stress tests based on scenarios which may not be consistent with those used in solvency stress tests we propose a structural framework for the joint stress testing of solvency and liquidity our approach exploits the mechanisms underlying the solvency liquidity nexus to derive relations between solvency shocks and liquidity shocks these relations are then used to model liquidity and solvency risk in a coherent framework involving external shocks to solvency and endogenous liquidity shocks arising from these solvency shocks we define the concept of liquidity at risk which quantifies the liquidity resources required for a financial institution facing a stress scenario finally we show that the interaction of liquidity and solvency may lead to the amplification of equity losses due to funding costs which arise from liquidity needs

nonmonetary effects of the financial crisis in propagation of the great depression this paper examines the effects of the financial crisis of the 1930s onthe path of aggregate output during that period our approach is complementary to that of friedman and schwartz who emphasized the monetary impact of the bank failures we focus on non monetary primarily credit related aspects of the financial sector output link and consider the problems of debtors as well as those of the banking system we argue that the financial disruptions of 1930 33 reduced the efficiency of the credit allocation process and that the resulting higher cost and reduced availability of credit acted to depress aggregate demand evidence suggests that effects of this type can help explain the unusual length and depth of the great depression this abstract was borrowed from another version of this item

the real effects of liquidity during the financial crisis evidence from automobiles illiquidity in short term credit markets during the financial crisis might have severely curtailed the supply of nonbank consumer credit using a new data set linking every car sold in the united states to the credit supplier involved in each transaction we find that the collapse of the asset backed commercial paper market reduced the financing capacity of such nonbank lenders as captive leasing companies in the automobile industry as a result car sales in counties that traditionally depended on nonbank lenders declined sharply although other lenders increased their supply of credit the net aggregate effect of illiquidity on car sales is large and negative we conclude that the decline in auto sales during the financial crisis was caused in part by a credit supply shock driven by the illiquidity of the most important providers of consumer finance in the auto loan market these results also imply that interventions aimed at arresting illiquidity in short term credit markets might have helped contain the real effects of the crisis

financial intermediary coalitions abstract in this article an environment in which the investment opportunities of agents are private information is studied and it is shown that financial intermediaries arise endogenously within that environment it is established that financial intermediaries are part of an efficient arrangement in the sense that they are needed to support the authors private information core allocations these intermediaries which are coalitions of agents exhibit the following characteristics in equilibrium they borrow from and lend to large groups of agents they produce information about investment projects and they issue claims that have different state contingent payoffs than claims issued by ultimate borrowers

who borrows from the lender of last resort understanding why banks borrow from the lender of last resort lolr during a nancial crisis is crucial to understanding the macroeconomic impact of such largescale interventions we document a strong divergence among banks take up of lolr assistance during the nancial crisis in the euro area as banks which borrowed heavily also used increasingly risky collateral we propose four explanations for this divergence

migration under uncertainty about quality of locations abstract this paper develops a search theoretic framework for analyzing migration decisions of workers who can only observe the quality of a location by migrating to the location after accepting a job there after learning the location quality the worker can stay at the current job search locally at the same location or search for a job at another location leading to repeat migration this paper develops the properties of optimal search migration and repeat migration decisions and finds how revealed location quality influences the tradeoffs between local search and repeat migration the effects of search costs and better job opportunities on the reservation levels of wages and revealed quality levels are also determined

interbank market liquidity and central bank intervention we develop a simple model of the interbank market where banks trade a long term safe asset when there is a lack of opportunities for banks to hedge idiosyncratic and aggregate liquidity shocks the interbank market is characterized by excessive price volatility in such a situation a central bank can implement the constrained efficient allocation by using open market operations to fix the short term interest rate it can be constrained efficient for banks to hoard liquidity and stop trading with each other if there is sufficient uncertainty about aggregate liquidity demand compared to idiosyncratic liquidity demand

sulfur dioxide control by electric utilities what are the gains from trade title iv of the 1990 clean air act amendments caaa established a market for transferable sulfur dioxide so2 emission allowances among electric utilities this market offers firms facing high marginal abatement costs the opportunity to purchase the right to emit so2 from firms with lower costs and this is expected to yield cost savings compared to a command and control approach to environmental regulation this paper uses econometrically estimated marginal abatement cost functions for power plants affected by title iv of the caaa to evaluate the performance of the so2 allowance market specifically we investigate whether the much heralded fall in the cost of abating so2 compared to original estimates can be attributed to allowance trading we demonstrate that for plants that use low sulfur coal to reduce so2 emissions technical change and the fall in prices of low sulfur coal have lowered marginal abatement cost curves by over 50 percent since 1985 the flexibility to take advantage of these chan

prices and qualities a search model recently there has been substantial interest in the study of price and or quality dispersion in markets with costly information many of these studies focus on the problem of price dispersion assuming that the quality is fixed i e homogeneous good the most distinct feature of these models is the way information is gathered information can either be obtained through the purchase of a newspaper at some cost information purchase models or through costly sequential or nonsequential search search models each of these models identifies the conditions under which a rational expectation price dispersion equilibrium will exist in particular using an information purchase model with two classes of consumers with differential information costs salop stiglitz 15 show that equilibrium may be characterized by a high and a low price for a homogeneous good on the other hand wildeschwartz 18 show that there can be price dispersion if consumers have different propensities to search they assume that one class of consumers will shop only once and the other class will shop an exogenously determined number of times before purchasing in their model only certain price distributions are sustainable in equilibrium the salop stiglitz and wilde schwartz results are due to the ex ante heterogeneity of consumer types in an interesting paper burdett judd 3 have established that price dispersion can exist even when consumers are identical due to ex post heterogeneity in information while the price dispersion models are illuminating in explaining the differential prices in the markets they are limited by their abstraction from the quality uncertainty goods of heterogeneous qualities can be and are offered in a recent paper 6 using an information purchase model with two classes of consumers we have analyzed the price and quality equilibria by examining three different environments involving costly information i quality information costly price information costless ii price information costly

measuring banks liquidity risk an option pricing approach abstract this paper proposes a new approach to evaluating banks liquidity needs which is not only well grounded theoretically but is also easy to apply practically within the framework of a global game with imperfect information we first establish a boundary condition for bank runs and show that there exists a unique nash equilibrium for bank runs using the option pricing approach we then obtain a closed form formula for the value of bank equity with both run risk and insolvency risk finally a bank s optimal liquidity ratio is derived by maximizing the value of bank equity using data on chinese listed banks we show that the deviation of the actual liquidity ratio from the optimal liquidity ratio in a bank represents a robust proxy for its liquidity risk an increased liquidity shortfall leads to worsening liquidity problems and this is particularly pronounced when the liquidity shortfall is high

does competition reduce price dispersion new evidence from the airline industry we analyze the effects of competition on price dispersion in the airline industry using panel data from 1993 q1 through 2006 q3 competition has a negative effect on price dispersion in line with the textbook treatment of price discrimination this effect is pronounced for routes with consumers characterized by relatively heterogeneous elasticities of demand on routes with a homogeneous customer base the effects of competition on price dispersion are smaller our results contrast with those of borenstein and rose who found that price dispersion increases with competition we reconcile the different results by showing that the cross sectional estimator suffers from omitted variable bias

self fulfilling fire sales fragility of collateralised short term debt markets this paper shows that collateralised short term debt although privately optimal for reducing borrowers moral hazard can cause fragility multiple equilibria when the collateral market is illiquid a new form of coordination failure between borrowers ex ante margin and risk taking decisions engenders a systemic run in the collateralised debt market large changes in credit rationing margins repo spreads etc the model also captures the large small crosssectional differences between safe and risky collateral in bad good times finally i show that asset price guarantees could improve welfare and promote stability but repealing repo contracts automatic stay exemption might do the opposite

financial contagion and depositor monitoring this paper analyzes market discipline in a many bank economy where contagion and bank runs interact we present a model with differently informed depositors where those depositors that are more informed have incentives to monitor banks investments it is shown that when banks are undercapitalized and the probability of success of the risky asset is low depositors might prefer a contract that is subject to bank runs in the interim period to a contract that allows banks to gamble with their funds and maintain their investment the results of the paper emphasize the benefits of private monitoring of banks in order to promote market discipline

imperfect interbank markets and the lender of last resort abstract this paper presents a monetary model in which interbank markets have limited commitment to contracts limited commitment reduces the proportion of assets that can be used as collateral and thus banks with high liquidity demands face borrowing constraints in interbank markets these constraints can be relieved by the central bank a lender of last resort through the provision of liquidity loans i show that the constrained efficient allocation can be decentralized by controlling only the money growth rate if commitment to interbank contracts is not limited otherwise a proper combination of central bank loans and monetary policy is needed to bring the market equilibrium into a state of constrained efficiency

information sharing information free riding and capital structure in oligopolies we study the effect of capital structure decisions on the incentives for firms in a duopoly to share information through a trade association focusing on the case of cournot competition with demand uncertainty we find that the standard result for all equity firms that information will not be shared may be reversed when one firm has better access to information than the other leverage may be a way for the latter firm to free ride on the former firm s information with ex ante symmetric firms a trade association will be formed even if information sharing does not occur

money in a theory of banking we introduce money in a model of banking in order to examine how open market operations can affect aggregate bank lending and output we see two important ways changes in money supply affect the banking system first by changing prices and interest rates it affects the wealth of demanders of real liquidity and thus the equilibrium production of liquid assets aggregate output and the health of the banking system second it changes the value of money as a means of payment and thus the attractiveness of moving from deposits to currency the demand for financial liquidity again this impacts the health of the banking system and thus bank lending and aggregate output we use this understanding to see how changes in money supply can create alleviate or be ineffective in banking crises

distinguishing panics and information based bank runs welfare and policy implications in this paper we contrast panics and information based bank runs in an effort to provide a robust and empirically plausible model of how bank runs are triggered the model of information based runs is characterized by two sided asymmetric information the bank cannot observe the true liquidity needs of the depositors while depositors are asymmetrically informed about bank asset quality we also examine the relative degrees of risk sharing provided by bank deposit contracts and traded equity contracts we show that the choice of deposit or equity depends on the attributes of and information about the underlying investment returns

a model of a systemic bank run abstract this paper provides a model of the view that the 2008 financial crisis is reminiscent of a bank run focussing on six stylized key features in particular core financial institutions have invested their funds in asset backed securities rather than committed to long term projects in distress these can potentially be sold to a large pool of outside investors at steep discounts i consider two different motives for outside investors and their interaction with banks trading asset backed securities uncertainty aversion versus adverse selection i shall argue that the version with uncertainty averse investors is more consistent with the stylized facts than the adverse selection perspective in the former the crisis deepens the larger the market share of distressed core banks while a run becomes less likely instead as a result in the adverse selection version therefore the outright purchase of troubled assets by the government at prices above current market prices may both alleviate the financial crises as well as provide tax payers with returns above those for safe securities

the influence of expert reviews on consumer demand for experience goods a case study of movie critics an inherent problem in measuring the influence of expert reviews on the demand for experience goods is that a correlation between good reviews and high demand may be spurious induced by an underlying correlation with unobservable quality signals using the timing of the reviews by two popular movie critics siskel and ebert relative to opening weekend box office revenue we apply a difference in differences approach to circumvent the problem of spurious correlation after purging the spurious correlation the measured influence effect is smaller though still detectable positive reviews have a particularly large influence on the demand for dramas and narrowly released movies

lenders on the storm of wholesale funding shocks saved by the central bank abstractwe provide empirical evidence on banks responses to shocks in the wholesale funding market using data of 181 euro area banks over the period from august 2007 to june 2013 responses to funding liquidity shocks for both banks lending volumes and loan rates to households and corporates are analysed in a panel var framework we thereby distinguish banks by country extent of eurosystem borrowing bank size and capitalization the results show that shocks in the securities and interbank markets have significant effects on loan rates and credit supply particularly of banks in stressed countries of the periphery the results also suggest that central bank liquidity has mitigated this effect on lending volumes lending to nonfinancial corporations is more sensitive to wholesale funding shocks than lending to households lending volumes of large banks that are typically more dependent on wholesale funding and banks with large exposure to sovereign bonds show stronger responses to wholesale funding s

innovation and reputation this paper analyzes a monopolist that markets successive generations of new and improving nondurable products prices research intensity and product innovations are derived as sequential equilibrium outcomes to a dynamic game with incomplete information asymmetric information is an important feature of the model the monopolist is fully aware of the current product s quality as are consumers who have tried it however the beliefs of other people are characterized by a probability distribution that depends on the monopolist s marketing strategy and the product s popularity the analysis illustrates a new context in which price signaling might serve as a mechanism for ensuring that only high quality products are marketed more important it shows how product life cycles are generated in the absence of signaling and how a reputation for producing high quality goods becomes established in such cases

is historical cost accounting a panacea market stress incentive distortions and gains trading we provide new empirical evidence concerning the contentious debate over the use of historical cost versus fair value accounting in regulating financial institutions these accounting rules through their interactions with capital regulation alter financial institutions optimal portfolio choice and trading behavior the insurance industry provides a natural laboratory in which to explore these interactions first there exist significant differences in regulatory accounting rules life insurers have greater flexibility to hold speculative grade instruments at historical cost than property and casualty insurers second within an insurer s investment portfolio detailed data are available on transactions positions and most importantly the regulatory accounting treatment for each security when faced with severe downgrades among their holdings in asset backed securities abs life insurers largely continue to hold the downgraded securities at historical cost and instead selectively sell their corporate bond holdings with the highest unrealized gains inducing significant price declines this is particularly true for life insurers facing regulatory capital constraints and with high abs exposures this behavior is largely absent among property and casualty insurers they instead disproportionately sell their re marked abs holdings historical cost accounting creates an altered incentive environment in which constrained financial institutions sell assets to realize gains insofar as this behavior transmits shocks across potentially unrelated markets historical cost accounting is not a panacea

runs versus lemons information disclosure and fiscal capacity we study the optimal use of disclosure and fiscal backstops during financial crises providing information can reduce adverse selection in credit markets but negative disclosures can also trigger inefficient bank runs in our model governments are thus forced to choose between runs and lemons a fiscal backstop mitigates the cost of runs and allows a government to pursue a high disclosure strategy our model explains why governments with strong fiscal positions are more likely to run informative stress tests and paradoxically how they can end up spending less than governments that are more fiscally constrained

bank liquidity creation and recessions abstract we investigate the relationship between bank liquidity creation and recessions in the u s for the 1984 2010 sample we find that i lower bank on balance sheet liquidity creation signals recessions four quarters into the future ii off balance sheet liquidity creation is not a robust predictor of recessions at longer forecast horizons iii off balance sheet liquidity creation falls in tandem with on balance sheet liquidity creation one quarter prior to recessions and aggregate on and off balance sheet bank liquidity creation continue to decline during and up to five quarters after recessions and iv liquidity creation of larger banks contains more information about future recessions than that of smaller ones

the effect of unemployment insurance on the riskiness of occupational choice abstract this paper examines the effect of unemployment insurance on the riskiness of occupational choice by postulating a model of job search in which job offers have two characteristics their wage and their security of tenure two versions are considered a general case in which the unemployment benefit is earnings related and a special case in which the benefit is of a flat rate form of particular interest in the paper is the individual s desired trade off between wage and security of tenure and how this trade off is affected by the type of insurance scheme in operation perhaps surprisingly we find that an earnings related scheme encourages risk taking behaviour by the poor and risk avoiding behaviour by the rich in contrast a flat rate scheme neither encourages nor discourages risk taking

optimal financial crises empirical evidence suggests that banking panics are related to the business cycle and are not simply the result of sunspots panics occur when depositors perceive that the returns on bank assets are going to be unusually low we develop a simple model of this in this setting bank runs can be first best efficient they allow efficient risk sharing between early and late withdrawing depositors and they allow banks to hold efficient portfolios however if costly runs or markets for risky assets are introduced central bank intervention of the right kind can lead to a pareto improvement in welfare from the earliest times banks have been plagued by the problem of bank runs in which many or all of the bank s depositors attempt to withdraw their funds simultaneously because banks issue liquid liabilities in the form of deposit contracts but invest in illiquid assets in the form of loans they are vulnerable to runs that can lead to closure and liquidation a financial crisis or banking panic occurs when depositors at many or all of the banks in a region or a country attempt to withdraw their funds simultaneously prior to the twentieth century banking panics occurred frequently in europe and the united states panics were generally regarded as a bad thing and the development of central banks to eliminate panics and ensure financial stability has been an important feature of the history of financial systems it has been a long and involved process the first cerntral bank the bank of sweden was established more than 300 years ago the bank of england played an especially important role in the development of effective stabilization policies in the eighteenth and nineteenth centuries by the end of the nineteenth century banking panics had been eliminated in europe the last true panic in england was the overend gurney company crisis of 1866

information costs duration of search and turnover theory and applications this paper uses a formal model of search over multiattribute alternatives analyzed in a product market setting to investigate the theoretical foundations of the empirical literature on duration of search and turnover in product markets labor markets and marriage markets a number of specific empirical predictions are also derived in particular whether quality is a search attribute or an experience attribute is related to the cost of search the cost of inspection the price of the good and certain properties of the market distribution of price and quality

money financial stability and efficiency most analyses of banking crises assume that banks use real contracts however in practice contracts are nominal and this is what is assumed here we consider a standard banking model with aggregate return risk aggregate liquidity risk and idiosyncratic liquidity shocks we show that with non contingent nominal deposit contracts the first best efficient allocation can be achieved in a decentralized banking system what is required is that the central bank accommodates the demands of the private sector for fiat money variations in the price level allow full sharing of aggregate risks an interbank market allows the sharing of idiosyncratic liquidity risk in contrast idiosyncratic bank specific return risks cannot be shared using monetary policy alone real transfers are needed

quantifying consumer perception of a financially distressed company to measure how consumers respond to negative information about the financial health of a durable goods producer i use the prices at which vehicles sell in secondary markets to quantify consumer perception of the chrysler corporation during the period surrounding the chrysler loan guarantee act of 1979 i focus on chrysler s july 31 1979 announcement of financial distress and request for assistance from the u s government the trend in the prices of used chrysler vehicles relative to those of its american competitors provides strong support for the claim that consumers reduce their willingness to pay for the goods of a financially distressed company

spillovers from good news and other bankruptcies real effects and price responses abstract we model debt restructurings that could endogenously end in bankruptcy and study spillovers to competitors operating decisions profits restructuring outcomes and security prices we show that while bankruptcy could cause the firm s share price to drop bankruptcy always signals good news about the firm we identify the conditions under which a bankruptcy also signals good news about competitors we demonstrate that when a firm s bankruptcy costs are relatively small bankruptcy raises its share price while lowering the prices of competitors shares and debt as well as boosting the probability that they will enter bankruptcy when there is little information asymmetry about the firm s prospects or the information asymmetry is about industry prospects bankruptcy raises competitors share and debt prices and lowers their probability of bankruptcy

financial intermediation and delegated monitoring this paper develops a theory of financial intermediation based on minimizing the cost of monitoring information which is useful for resolving incentive problems between borrowers and lenders it presents a characterization of the costs of providing incentives for delegated monitoring by a financial intermediary diversification within an intermediary serves to reduce these costs even in a risk neutral economy the paper presents some more general analysis of the effect of diversification on resolving incentive problems in the environment assumed in the model debt contracts with costly bankruptcy are shown to be optimal the analysis has implications for the portfolio structure and capital structure of intermediaries

do accounting measurement regimes matter a discussion of mark to market accounting and liquidity pricing abstract using a model with banking and insurance sectors allen and carletti show that marking to market interacts with liquidity pricing to exacerbate the likelihood of financial contagion between the two sectors in this discussion i lay out the main ingredients of their model and explain how they interact with liquidity pricing to generate financial contagion i then discuss some limitations of their model and propose an interesting extension

liquidity provision banking and the allocation of interest rate risk abstract the paper studies the efficient allocation of technology induced interest rate risk and the implications of such risk for efficient liquidity provision complete immunization against interest rate risk is shown to be undesirable as it precludes the exploitation of favourable reinvestment opportunities under the assumptions of diamond dybvig 1983 interest induced valuation risks of long term assets should be born by early withdrawers reinvestment opportunity risks of short term assets by late withdrawers efficient liquidity provision thus entails no shifting of interest rate risk in the absence of additional moral hazard second best allocations can be implemented through unregulated competition among banks

bank bailouts and aggregate liquidity governments sometimes bail out banks by recapitalizing them or by offering to insure their liabilities the government s goal may be to rescue borrowers bankers or depositors and economists have developed rationales why each of these constituencies may merit protection e g diamond 2001 these potential benefits have to be weighed against the costs of a bailout which are typically thought to be the damage to long run incentives that such intervention engenders in this paper we present a different effect of bank bailouts bank bailouts alter the availability of aggregate liquidity in the economy while a well targeted bailout can help rescue an otherwise collapsing banking system see diamond and rajan 2001a a poorly targeted bailout can even tip a banking system into a systemic crisis this ex post crisis cost of bank bailouts to the best of our knowledge has not been examined elsewhere and is the focus of this paper

bank resolution a framework for the assessment of regulatory intervention more than ever the current crisis has highlighted the cost of banking crises in budgetary and economic growth terms whether or not to restructure a bank is a key determinant of who bears the costs the present article surveys the main issues concerning banks restructuring by considering the bargaining game that is played between regulators and shareholders when a bank is in distress this revolves around the framework of negotiation that was established by the regulator the fall back position which is determined by bankruptcy legislation and the objective function of the regulator in this context we argue that it is possible to improve upon existing restructuring mechanisms by making banks bail outs less costly to taxpayers and improving the ex ante incentives of banks managers and shareholders the authors 2012 published by oxford university press

the role of demandable debt in structuring optimal banking arrangements demandable debt finance by banks warrants explanation because it entails costs of bank suspension liquidation and idle reserve holdings an explanation is developed in which demandable debt provides incentive compatible intermediation where the banker has comparative advantage in allocating investment funds but may act against the interests of uninformed depositors demandable debt attracts funds by giving depositors an option to force liquidation its usefulness in transacting follows from information sharing between monitors and nonmonitors copyright 1991 by american economic association

a model of capital and crises we develop a model in which the capital of the intermediary sector plays a critical role in determining asset prices the model is cast within a dynamic general equilibrium economy and the role for intermediation is derived endogenously based on optimal contracting considerations low intermediary capital reduces the risk bearing capacity of the marginal investor we show how this force helps to explain patterns during financial crises the model replicates the observed rise during crises in sharpe ratios conditional volatility correlation in price movements of assets held by the intermediary sector and fall in riskless interest rates

monetary intervention mitigated banking panics during the great depression quasi experimental evidence from a federal reserve district border 1929 1933 the federal reserve act divided mississippi between the 6th atlanta and 8th st louis districts during the great depression these districts policies differed atlanta championed monetary activism and the extension of aid to ailing banks st louis eschewed expansionary initiatives during a banking crisis in 1930 atlanta expedited lending to banks in need st louis did not outcomes differed across districts in atlanta banks survived at higher rates lending continued at higher levels commerce contracted less and recovery began earlier these patterns indicate that central bank intervention influenced bank health credit availability and business activity

bailouts and systemic insurance abstract we revisit the link between bailouts and bank risk taking bailout expectations create moral hazard increase bank risk taking however when an individual bank s success depends on both its effort and the overall stability of the banking system bailouts that shield banks from contagion may increase their incentives to invest prudently and so reduce bank risk taking this systemic insurance effect is more important when bailout rents are low while contagion risk is high the optimal policy is then to make bailouts not difficult but effective associated with lower rents we further show that besides better bank resolution a powerful means to reduce bailout rents is higher ex ante bank capital since it implies a larger bank equity cushion that can be expropriated in a resolution this highlights an important complementarity between bank capital regulation and bailouts as tools to enhance financial stability

the credit crisis conjectures about causes and remedies what caused the financial crisis that is sweeping across the world what keeps asset prices and lending depressed what can be done to remedy matters while it is too early to arrive at definite answers to these questions it is certainly time to offer informed conjectures and these are the focus of this paper this abstract was borrowed from another version of this item

intermediary asset pricing abstract we model the dynamics of risk premia during crises in asset markets where the marginal investor is a financial intermediary intermediaries face an equity capital constraint risk premia r

dynamic debt runs we develop a dynamic model of debt runs on a rm which invests in an illiquid asset by rolling over staggered short term debt contracts i e dierent contracts mature at dierent times we derive a unique threshold equilibrium in which creditors coordinate their asynchronous rollover decisions based on the rm s publicly observable and time varying fundamental the coordination problem ampli es the creditors concerns about the rm s future rollover risk created by its time varying fundamental and causes each maturing creditor to run ahead of others even when the current fundamental is substantially higher than its liability our model provides a set of implications on the roles played by volatility illiquidity and debt maturity in driving debt runs as well as on rms capital adequacy standards and credit risk

bank failures and bank fundamentals a comparative analysis of latin america and east asia during the nineties using bank level data abstract this paper uses bank level data from recent banking crises in east asia and latin america to address the following two questions 1 to what extent did individual bank conditions explain the failures 2 in terms of their fundamentals was it mainly the weak banks ex ante that failed in the crisis countries the results show that for the two regions bank level fundamentals significantly affect the likelihood of collapse for these banks systemic shocks both macroeconomic and liquidity that triggered the crises mainly destabilized the weak banks ex ante particularly in east asia which raises questions about the role that regional differences play for the degree of banking sector resilience to systemic shocks in the financial and macroeconomic environment

bank panics suspensions and geography some notes on the contagion of fear in banking bank panics suspensions and geography some notes on the contagion of fear in banking recent attempts to understand bank panics tend to emphasize informational asymmetries or the possibilities of multiple equilibria such approaches stand in contrast to historical research that emphasizes legal factors influencing the organization of the banking system this paper constructs a model of a banking system operating under regulations similar to those in effect under the national banking system and in which information is complete in all other respects the model resembles that of diamond and dybvig 1983 the results indicate that given the regulatory environment it would have been surprising if suspensions of convertibility had not recurred periodically i introduction traditional explanations of panics under the national banking system 1863 1913 offered both by scholars and contemporaries stressed three factors 1 limitations on branching created incentives for the development and heavy use of correspondent banking relations 2 regulations favored holding interbank deposits with a relatively small group of new york banks this concentrated the reserves of the banking system in one location guaranteeing that heavy withdrawals of interbank balances from any source would affect new york banks and through them the entire banking system 3 legal restrictions prevented banks especially those holding large interbank deposits from adjusting interest rates in order to protect those deposits during periods of heavy withdrawal demand 1 this traditional explanation of the periodic recurrence of panics which emphasizes the organization of the banking system stands in marked contrast to more recent theories of panics which tend to focus on various informational asymmetries between banks and depositors 2 most of the recent literature on panics follows diamond and dybvig 1983 in modelling banks as a mechanism for pooling liquidity risks faced by depositors more specifically potential depositors can invest in the same primary assets available to banks however primary assets are costly to liquidate and depositors face random future liquidity needs at the time they make their investment decisions in such a framework the role of banks is to create and issue liabilities more liquid than their assets this activity provides insurance to depositors against random liquidity needs in diamond and dybvig s paper exogenous shocks to agents liquidity preference motivate withdrawal demand contracts between banks and depositors allow agents with liquidity needs to liquidate deposits at a lower cost than would be incurred in liquidating the primary asset however for each withdrawal due to inopportune liquidity needs a bank must liquidate primary assets and bear these costs hence the provision of liquidity by banks is feasible only if withdrawal demand is restricted to those actually requiring liquidity in the model of diamond and dybvig 3 panics can occur because the liquidity needs of individuals are private information in particular banks are assumed to be unable to observe whether any individual needs liquidity and hence cannot limit payments to individuals who actually need to withdraw funds banks are thus subject to runs as the result of self fulfilling prophecies if all depositors fear a run and they all seek to withdraw it will not be feasible for the banking system to provide liquidity to all of them thus the banking system must either suspend payments or be rendered insolvent of course a crucial component of this reasoning is that banks cannot distinguish legitimate from panic motivated withdrawals and hence cannot ration funds on this basis this model of panics provides no role for the organization of the banking system it therefore suggests that different countries or different regulatory regimes within the same country should have similar histories with respect to panics so long as they had similar deposit insurance schemes and similarly behaving lenders of last resort

fear of fire sales illiquidity seeking and credit freezes is there any need to clean up a banking system in the midst of a crisis for instance by closing some weak banks and forcing others to sell bad assets or can one wait till the crisis is over we argue that an overhang of impaired banks that may be forced to sell assets in the future can increase the private returns to holding illiquid assets sufficiently that weak banks have no interest in selling them anticipating a potential future fire sale cash rich buyers have high expected returns to holding cash which also reduces their incentive to lock up money in term loans the potential for a worse fire sale than necessary as well as the associated decline in credit origination could make the crisis worse which is one reason it may make sense to clean up the system even in the midst of the crisis we discuss alternative ways of cleaning up the system and the associated costs and benefits

international and domestic collateral constraints in a model of emerging market crises abstract we build a model of emerging markets crises which features two types of collateral constraints firms in a domestic economy have limited borrowing capacity from international investors they also have limited borrowing capacity with respect to each other we study how the presence and changes in these collateral constraints affect financial and real variables a binding international constraint in the aggregate leads to a sharp rise in interest rates and fire sales of domestic assets while limited domestic collateral can lead to wasted international collateral these two collateral constraints can interact in important ways the first is disintermediation a fire sale of domestic assets causes banks to fail in their function of reallocating resources across the economy leading to wasted international collateral the second is a dynamic effect we show that firms in an economy with limited domestic collateral and a binding international collateral constraint will not adequately precaution against adverse shocks increasing the severity of these shocks

financial integration specialization and systemic risk this paper studies the implications of cross border financial integration for financial stability when banks loan portfolios adjust endogenously banks can be subject to sectoral and aggregate domestic shocks after integration they can share these risks in a complete interbank market when banks have a comparative advantage in providing credit to certain industries financial integration may induce banks to specialize in lending an enhanced concentration in lending does not necessarily increase risk because a well functioning interbank market allows to achieve the necessary diversification this greater need for risk sharing though increases the risk of cross border contagion and the likelihood of widespread banking crises however even though integration increases the risk of contagion it improves welfare if it permits banks to realize specialization benefits

goodwill intertemporal price dependence and the repurchase decision stigler s i96i pioneering article on the economics of information directed economists attention to market situations where the classical assumption of perfect knowledge could not be supported his theory pictured a world in which prices were not known to the consumer a priori information being scarce was also costly but information had clear economic value to those wishing to possess it focus of the new theory thus came to be on an individual optimising over benefits expected price reductions and costs time spent canvassing to the activity of information gathering or search whilst this new direction taken by consumer theory has been towards greater descriptive realism the attendant drawbacks have been several technical complexities of formulation have commonly resulted in highly simplified models with utility linear in prices and purchase restricted to a single unit of the good even when time has been explicitly taken into account an invariable assumption has been the independence of prices from one period to the next 2 after twenty years stigler still remains alone in the literature as having made an attempt to integrate the idea of intertemporally correlated prices with the important economic concept of goodwill the present paper is an attempt to remedy within the context of a single model the above mentioned deficiencies the main emphasis of the paper as the title suggests is on the role of goodwill and intertemporal price dependence in the repurchase decision the decision whether or not to buy again at the same store or to look around the framework proposed is a dynamic one in which the consumer has in each period to a finite horizon an ex post and ex ante utility maximisation problem the ex post problem concerns her consumption decision in any period once prices are known the ex ante problem her decision as to how much

heterogeneity and stability bolster the strong not the weak we first study a stylized model of self fulfilling panic among agents with differing fragilities to strategic risk and show that depending on the severity of coordination problems the panic trigger threshold can depend only on one type s fragility we then present a model of systemic panic among financial institutions with heterogeneous fragilities to financial spillovers concerns about potential spillovers generate strategic interaction triggering a pre emption game in which one tries to exit the market before others to avoid spillovers although financial contagion originates in weaker institutions systemic risk can critically depend on financial health of stronger in the contagion chain in this case bolstering the strong rather than the weak more effectively enhances systemic stability

the paradox of liquidity the more liquid a firm s assets the greater their value in a short notice liquidation it is generally thought that a firm should find it easier to raise external finance against more liquid assets this paper focuses on the dark side of liquidity greater asset liquidity reduces the firm s ability to commit to a specific course of action as a result greater asset liquidity can in some circumstances reduce the firm s capacity to raise external finance firms with excessively liquid assets are in the best position to finance illiquid projects this leads us to a theory of financial intermediation and disintermediation based on the liquidity of assets

bank capital interbank contagion and bailout policy abstract this paper develops a theoretical framework in which asset linkages in a syndicated loan agreement can infect a healthy bank when its partner bank fails we investigate how capital constraints affect the choice of the healthy bank to takeover or liquidate the exposure held jointly with the failing bank and how the bank s ex ante optimal capital holding and possibility of contagion are affected by anticipation of bail out policy capital requirements and the joint exposure we identify a range of factors that strengthen or weaken the possibility of contagion and bailout recapitalization with common stock rather than preferred equity injection dilutes existing shareholder interests and gives the bank a greater incentive to hold capital to cope with potential contagion increasing the minimum regulatory capital does not necessarily reduce contagion while the requirement of holding conservation capital buffer could increase the bank s resilience to avoid contagion

interest rate trap or why does the central bank keep the policy rate too low for too long time this paper provides a framework for modeling the risk taking channel of monetary policy the mechanism how financial intermediaries incentives for liquidity transformation are affected by the central bank s reaction to financial crisis anticipating central bank s reaction to liquidity stress gives banks incentives to invest in excessive liquidity transformation triggering an interest rate trap the economy will remain stuck in a long lasting period of sub optimal low interest rate equilibrium we demonstrate that interest rate policy as financial stabilizer is dynamically inconsistent and the constraint efficient outcome can be implemented by imposing ex ante liquidity requirements

reprint of stopping contagion with bailouts micro evidence from pennsylvania bank networks during the panic of 1884 abstract using a newly constructed historical dataset on the pennsylvania state banking system detailing the amounts of due froms on a debtor bank by debtor bank basis we investigate the effects of the panic of 1884 and subsequent private sector orchestrated bailout of systemically important banks sibs on the broader banking sector we find evidence that pennsylvania banks with larger direct interbank exposures to new york city changed the composition of their asset holdings shifting from loans to more liquid assets and reducing their new york city correspondent deposits in the near term over the long term though only the lower correspondent deposits effect persisted our findings show that the banking turmoil in new york city impacted more exposed interior banks but that bailouts of sibs by the new york clearing house likely short circuited a full scale banking panic

liquidity shortages and banking crises we show in this article that bank failures can be contagious unlike earlier work where contagion stems from depositor panics or contractual links between banks we argue that bank failures can shrink the common pool of liquidity creating or exacerbating aggregate liquidity shortages this could lead to a contagion of failures and a total meltdown of the system given the costs of a meltdown there is a possible role for government intervention unfortunately liquidity and solvency problems interact and can cause each other making it hard to determine the cause of a crisis we propose a robust sequence of intervention banks are often found at the center of systemic financial crises the causes of these crises have long been debated do they stem from depositor panics or do they arise because bank balance sheets are exposed to common factors if it is the latter then is there any sense in which bank failures can be contagious can anything be done to prevent these crises or stop them from propagating once they begin our purpose in this paper is to reexamine whether bank failures can start and propagate systemic crises even if we assume that depositors do not panic that is even if depositors actions are coordinated and they do not run simply because they fear others will run our focus is not because we think that panics are empirically unimportant the jury is still out on that instead we show that contagion can stem from an underlying real general equilibrium problem rather than just from lack of coordination among depositors from a policy perspective attempts to reassure investors through confidence building measures will not work if panic and lack of coordination are not the reasons for a crisis we begin in this paper with a model of a bank that we developed in diamond and rajan 2001 assets in this model are illiquid they cannot be borrowed against or sold for the full value of resources they will generate in their best use because the human capital necessary to generate that full value cannot

fixed costs matter even when the costs are sunk how firms set prices is key to understanding markets standard economics dictates that the fixed costs of a firm should not affect its prices nonetheless it is common practice for firms to raise their prices after a fixed costs increase we show that firms are correct in doing so if two ubiquitous conditions apply i future profits increase in current sales and ii firms are liquidity constrained

banks and liquidity banks perform valuable activities on either side of their balance sheets on the asset side they make loans to difficult illiquid borrowers on the liability side they provide liquidity on demand to depositors but there seems to be a fundamental incompatibility between the two activities the demands for liquidity by depositors may arrive at an inconvenient time and force the fire sale liquidation of illiquid assets furthermore because depositors are served in sequence the prospect of fire sales may precipitate self fulfilling runs that further jeopardize bank activities is this an aberration stemming from historical accident and enshrined by deposit insurance or is there logic hitherto unnoticed for the bank s choice of activities our recent work suggests that the answer to the latter question is yes in order to describe why a bank s fragile capital structure allows it to create liquidity and to explain why bank loans are illiquid we present a simple example based on diamond and rajan 2001a

recapitalization credit and liquidity this paper documents the characteristics of public recapitalizations of banks undertaken since 2008 and examines their relationship with bank lending the analysis covers the 15 oecd countries whose banking sectors were most severely hit by the crisis and that provided the largest public bailouts relative to their national gross domestic product gdp we show that the design of the interventions varied considerably across banks and countries larger and higher loss absorbing capital injections were targeted at weaker banks and at banks of systemically relevant size when the state of public finances allowed our results encourage theoretical research with respect to non linear and potentially adverse effects of bailouts as well as further investigation into the link between the loss absorbing properties of bank capital and loan growth with respect to bank lending we find that only large recapitalizations and infusions of common equity are associated with higher total regulatory capital ratios and sustained loan growth we find no significant relationship between public capital provisions and interbank lending and challenge the view that local banks increase loan growth relatively more in response to a recapitalization mike mariathasan and ouarda merrouche

interbank contagion at work evidence from a natural experiment this article tests financial contagion due to interbank linkages for identification we exploit an idiosyncratic sudden shock caused by a large bank failure in conjunction with detailed data on interbank exposures first we find robust evidence that higher interbank exposure to the failed bank leads to large deposit withdrawals second the magnitude of contagion is higher for banks with weaker fundamentals third interbank linkages among surviving banks further propagate the shock finally we find results suggesting that there are real economic effects these results suggest that interbank linkages act as an important channel of contagion and hold important policy implications jel g01 g21 g28 e58 since the onset of the financial turmoil increased uncertainty reflected particularly in counterparty risk has led banks to hoard liquidity this has resulted in a significant decline of trading in the interbank money markets jean claude trichet president of the european central bank december 2008

does risk aversion affect bank output loss the case of the eurozone abstract we propose a new model to infer the evolution of bank specific output losses due to the uncertainty in bank output prices losses are based on bank risk aversion with micro foundations tethered to the uncertainty regarding prices our model allows us to measure time varying bank specific output losses and risk aversion while taking into account all bank cross sectional heterogeneity we employ a panel data set to estimate the input and output elasticities with both parametric and non parametric techniques we are the first to document that increasing risk aversion among eurozone banks during the financial crisis resulted in sizable output losses although subdued thereafter losses have been resurging in recent years both conventional and unconventional monetary policy responses by the european central bank ecb mitigated uncertainty in bank output prices though unequally so across countries certain measures of unconventional monetary policy may have even enhanced bank risk aversion and thereby output losses but mainly so for large countries

consumer search with uncertain product quality this paper presents a unified model of consumer search when both prices and qualities are uncertain it is assumed that price can be observed prior to purchase but that quality can be observed only after purchase and experience this two stage decision problem is of particular interest since in practice there is usually some connection between quality and price of the many interesting implications of this dependence explored in this paper is the result that the usual reservation price rule may no longer be optimal indeed the optimal stopping set may take one of several alternative and more realistic forms

too many to fail evidence of regulatory forbearance when the banking sector is weak this paper studies bank failures in 21 emerging market countries in the 1990s by using a competing risk hazard model for bank survival we show that a government is less likely to take over or close a failing bank if the banking system is weak this too many to fail effect is robust to controlling for macroeconomic factors financial crises the too big to fail effect domestic financial development and concerns due to systemic risk and information spillovers the paper also shows that the too many to fail effect is stronger for larger banks and when there is a large government budget deficit