In a crisis, regulators and private investors can find it difficult, if not impossible, to tell whether banks facing runs are insolvent or merely illiquid. We introduce such an information constraint into a global-games-based bank run model with multiple banks and aggregate uncertainties. The information constraint creates a vicious cycle between contagious bank runs and falling asset prices and limits the effectiveness of traditional emergency liquidity assistance programs. We explain how a regulator can set up committed liquidity support to contain contagion and stabilize asset prices even without information on banks’ solvency, rationalizing some recent developments in policy practices. This paper was accepted by Agostino Capponi, finance.
{"title":"Contagious Bank Runs and Committed Liquidity Support","authors":"Zhaochu Li, K. Ma","doi":"10.2139/ssrn.3777157","DOIUrl":"https://doi.org/10.2139/ssrn.3777157","url":null,"abstract":"In a crisis, regulators and private investors can find it difficult, if not impossible, to tell whether banks facing runs are insolvent or merely illiquid. We introduce such an information constraint into a global-games-based bank run model with multiple banks and aggregate uncertainties. The information constraint creates a vicious cycle between contagious bank runs and falling asset prices and limits the effectiveness of traditional emergency liquidity assistance programs. We explain how a regulator can set up committed liquidity support to contain contagion and stabilize asset prices even without information on banks’ solvency, rationalizing some recent developments in policy practices. This paper was accepted by Agostino Capponi, finance.","PeriodicalId":123550,"journal":{"name":"Financial Crises eJournal","volume":"69 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2020-12-30","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"130308237","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
Applying event study methodology on the US stock market, we present evidence that investors rely more on credit ratings for banks relative to non-financials and attribute this to a higher level of opacity. This effect is even reinforced during the financial crisis as bank opacity generally increases during stress periods. In response to the crisis, stress tests were introduced by the Federal Reserve in 2009 to alleviate the negative effects of bank opacity. We show that the stress tests have reduced the reliance on rating downgrades for stress-tested banks, and hence conclude that the tests succeeded to reduce bank opacity. However, we also find that the effect starts to decrease 6 months after the stress test disclosure. Moreover, stress tests do not affect the reliance on credit ratings for non-stress-tested banks, indicating that stress tests do not resolve potential negative effects of bank opacity for non-stress-tested banks. Our results suggest that policy makers should consider increasing the frequency of stress tests and extending the sample of stress-tested banks.
{"title":"Do Bank Stress Tests Reduce the Reliance on Credit Rating Downgrades?","authors":"Koen Inghelbrecht, Jessie Vantieghem","doi":"10.2139/ssrn.3752618","DOIUrl":"https://doi.org/10.2139/ssrn.3752618","url":null,"abstract":"Applying event study methodology on the US stock market, we present evidence that investors rely more on credit ratings for banks relative to non-financials and attribute this to a higher level of opacity. This effect is even reinforced during the financial crisis as bank opacity generally increases during stress periods. In response to the crisis, stress tests were introduced by the Federal Reserve in 2009 to alleviate the negative effects of bank opacity. We show that the stress tests have reduced the reliance on rating downgrades for stress-tested banks, and hence conclude that the tests succeeded to reduce bank opacity. However, we also find that the effect starts to decrease 6 months after the stress test disclosure. Moreover, stress tests do not affect the reliance on credit ratings for non-stress-tested banks, indicating that stress tests do not resolve potential negative effects of bank opacity for non-stress-tested banks. Our results suggest that policy makers should consider increasing the frequency of stress tests and extending the sample of stress-tested banks.","PeriodicalId":123550,"journal":{"name":"Financial Crises eJournal","volume":"118 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2020-12-21","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"131757680","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
In this study, we propose an implied forward-looking measure for systemic risk that employs the information from put option prices, the Systemic Options Value-at-Risk (SOVaR). This new measure can capture the buildup stage of systemic risk in the financial sector earlier than the standard stock market-based systemic risk measures (SRMs). Non-parametric tests show that our measure exhibits more timely early warning signals (up to one month earlier) regarding the main turbulent events around the global financial crisis of 2007-2009 than the three main stock market-based SRMs. Moreover, this new measure also shows significant predictive power with respect to macroeconomic downturns as well as future recessions. Our results are robust to various specifications, breakdowns of financial sectors, and controlling for the other main risk measures proposed in the literature.
{"title":"Options-Based Systemic Risk, Financial Distress, and Macroeconomic Downturns","authors":"Mattia Bevilacqua, R. Tunaru, Davide Vioto","doi":"10.2139/ssrn.3748621","DOIUrl":"https://doi.org/10.2139/ssrn.3748621","url":null,"abstract":"In this study, we propose an implied forward-looking measure for systemic risk that employs the information from put option prices, the Systemic Options Value-at-Risk (SOVaR). This new measure can capture the buildup stage of systemic risk in the financial sector earlier than the standard stock market-based systemic risk measures (SRMs). Non-parametric tests show that our measure exhibits more timely early warning signals (up to one month earlier) regarding the main turbulent events around the global financial crisis of 2007-2009 than the three main stock market-based SRMs. Moreover, this new measure also shows significant predictive power with respect to macroeconomic downturns as well as future recessions. Our results are robust to various specifications, breakdowns of financial sectors, and controlling for the other main risk measures proposed in the literature.","PeriodicalId":123550,"journal":{"name":"Financial Crises eJournal","volume":"160 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2020-12-14","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"115987157","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
We provide the first joint analysis of the secured and unsecured money markets of the euro area using bank-level data. After the Lehman crisis, two important substitution mechanisms emerge: banks with higher credit risk offset reductions of unsecured borrowing with secured funding. Riskier banks replace unsecured lending by granting more secured loans. However, high leverage and reliance on short-term funding hamper banks' ability to substitute. Moreover, banks enduring money market strains contribute to the credit crunch. Overall, our findings suggest that the secured segment of the euro money market contributes to financial stability, mitigating systemic effects such as short-term funding strains and contagion.
{"title":"Unsecured and Secured Funding","authors":"Mario di Filippo, A. Ranaldo, Jan Wrampelmeyer","doi":"10.2139/ssrn.2822345","DOIUrl":"https://doi.org/10.2139/ssrn.2822345","url":null,"abstract":"We provide the first joint analysis of the secured and unsecured money markets of the euro area using bank-level data. After the Lehman crisis, two important substitution mechanisms emerge: banks with higher credit risk offset reductions of unsecured borrowing with secured funding. Riskier banks replace unsecured lending by granting more secured loans. However, high leverage and reliance on short-term funding hamper banks' ability to substitute. Moreover, banks enduring money market strains contribute to the credit crunch. Overall, our findings suggest that the secured segment of the euro money market contributes to financial stability, mitigating systemic effects such as short-term funding strains and contagion.","PeriodicalId":123550,"journal":{"name":"Financial Crises eJournal","volume":"35 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2020-12-10","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"117273268","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
Fixed income markets rely on delegated asset management, where fund managers’ portfolio decisions are directed and restricted by investment mandates. We use textual analysis to classify U.S. fixed income funds’ mandate contents. Credit ratings can be used in mandates to define investable assets. Despite the shortcomings of ratings revealed in the global financial crisis, their use in mandates has steadily increased over the past two decades. By 2018, ratings are used by 94% of fixed income mutual funds. Credit ratings are an integral feature of contracting in financial markets and our results point to a lack of practically useful alternatives.
{"title":"The Use of Credit Ratings in Financial Markets","authors":"Ramin P. Baghai, Bo Becker, Stefan Pitschner","doi":"10.2139/ssrn.3201006","DOIUrl":"https://doi.org/10.2139/ssrn.3201006","url":null,"abstract":"Fixed income markets rely on delegated asset management, where fund managers’ portfolio decisions are directed and restricted by investment mandates. We use textual analysis to classify U.S. fixed income funds’ mandate contents. Credit ratings can be used in mandates to define investable assets. Despite the shortcomings of ratings revealed in the global financial crisis, their use in mandates has steadily increased over the past two decades. By 2018, ratings are used by<br>94% of fixed income mutual funds. Credit ratings are an integral feature of contracting in financial markets and our results point to a lack of practically useful alternatives.","PeriodicalId":123550,"journal":{"name":"Financial Crises eJournal","volume":"65 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2020-10-30","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"115838220","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
This paper investigates the actual impact of new accounting and regulatory requirements on banks’ provisioning policies and earnings management in the context of the capital adequacy of Euro Area (EA) credit institutions. This paper also examines whether loan-loss provisions signal managements’ expectations concerning future bank profits to investors. Evidence drawn from the 2011-2019 period indicates that earnings management is an important determinant of LLPs for EA intermediaries. During recent years, small bank managers are much more concerned with their credit portfolio quality and do not use LLPs for discretionary purposes apart from income smoothing. The paper gives evidence of a lack of flexibility in the Balance-Sheet of smaller banks and provides some policy refinement to avoid disorderly piecemeal liquidation.
{"title":"‘Size & Fit’ of Piecemeal Liquidation Processes: Aggravating Circumstances and Side Effects","authors":"Rosa Cocozza, R. Masera","doi":"10.2139/ssrn.3742613","DOIUrl":"https://doi.org/10.2139/ssrn.3742613","url":null,"abstract":"This paper investigates the actual impact of new accounting and regulatory requirements on banks’ provisioning policies and earnings management in the context of the capital adequacy of Euro Area (EA) credit institutions. This paper also examines whether loan-loss provisions signal managements’ expectations concerning future bank profits to investors. Evidence drawn from the 2011-2019 period indicates that earnings management is an important determinant of LLPs for EA intermediaries. During recent years, small bank managers are much more concerned with their credit portfolio quality and do not use LLPs for discretionary purposes apart from income smoothing. The paper gives evidence of a lack of flexibility in the Balance-Sheet of smaller banks and provides some policy refinement to avoid disorderly piecemeal liquidation.","PeriodicalId":123550,"journal":{"name":"Financial Crises eJournal","volume":"20 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2020-10-18","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"125955980","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
This research examines the structural properties of the macroscopic model introduced in [AlShelahi and Saigal, 2018]. We present a theoretical analysis of the behavior of the macroscopic variables. In particular, we show that the model exhibits shock-like solutions, providing a new narrative for financial shocks. To solve the system of stochastic nonlinear partial differential equations adaptively, an integrative algorithm is devised and tested on abnormal and normal trading days. The results suggest that abnormalities can be identified before crashes. Our findings warrant further investigation into the macroscopic structure of equity markets.
本研究考察了[AlShelahi and Saigal, 2018]中引入的宏观模型的结构特性。我们对宏观变量的行为进行了理论分析。特别是，我们表明该模型展示了类似冲击的解决方案，为金融冲击提供了一种新的叙述。为了自适应求解随机非线性偏微分方程组，设计了一种综合算法，并对异常交易日和正常交易日进行了测试。结果表明，可以在撞车前识别出异常情况。我们的发现为进一步研究股票市场的宏观结构提供了依据。
{"title":"Macroscopic Equity Markets Model: Towards Predicting Financial Crashes","authors":"Abdullah AlShelahi, R. Saigal","doi":"10.2139/ssrn.3803666","DOIUrl":"https://doi.org/10.2139/ssrn.3803666","url":null,"abstract":"This research examines the structural properties of the macroscopic model introduced in [AlShelahi and Saigal, 2018]. We present a theoretical analysis of the behavior of the macroscopic variables. In particular, we show that the model exhibits shock-like solutions, providing a new narrative for financial shocks. To solve the system of stochastic nonlinear partial differential equations adaptively, an integrative algorithm is devised and tested on abnormal and normal trading days. The results suggest that abnormalities can be identified before crashes. Our findings warrant further investigation into the macroscopic structure of equity markets.","PeriodicalId":123550,"journal":{"name":"Financial Crises eJournal","volume":"3 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2020-10-09","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"122162158","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
This paper revisits Keynes’s writings from Indian Currency and Finance (1913) to The General Theory (1936) with a focus on financial instability. The analysis reveals Keynes’s astute concerns about the stability/fragility of the banking system, especially under deflationary conditions. Keynes’s writings during the Great Depression uncover insights into how the Great Depression may have informed his General Theory. Exploring the connection between the experience of the Great Depression and the theoretical framework Keynes presents in The General Theory, the assumption of a constant money stock featuring in that work is central. The analysis underscores the case that The General Theory is not a special case of the (neo-)classical theory that is relevant only to “depression economics” — refuting the interpretation offered by J. R. Hicks (1937) in his seminal paper “Mr. Keynes and the Classics: A Suggested Interpretation.” As a scholar of the Great Depression and Federal Reserve chairman at the time of the modern crisis, Ben Bernanke provides an important intellectual bridge between the historical crisis of the 1930s and the modern crisis of 2007–9. The paper concludes that, while policy practice has changed, the “classical” theory Keynes attacked in 1936 remains hegemonic today. The common (mis-)interpretation of The General Theory as depression economics continues to describe the mainstream’s failure to engage in relevant monetary economics.
{"title":"The General Theory as 'Depression Economics'? Financial Instability and Crises in Keynes’s Monetary Thought","authors":"Jörg Bibow","doi":"10.2139/ssrn.3706312","DOIUrl":"https://doi.org/10.2139/ssrn.3706312","url":null,"abstract":"This paper revisits Keynes’s writings from Indian Currency and Finance (1913) to The General Theory (1936) with a focus on financial instability. The analysis reveals Keynes’s astute concerns about the stability/fragility of the banking system, especially under deflationary conditions. Keynes’s writings during the Great Depression uncover insights into how the Great Depression may have informed his General Theory. Exploring the connection between the experience of the Great Depression and the theoretical framework Keynes presents in The General Theory, the assumption of a constant money stock featuring in that work is central. The analysis underscores the case that The General Theory is not a special case of the (neo-)classical theory that is relevant only to “depression economics” — refuting the interpretation offered by J. R. Hicks (1937) in his seminal paper “Mr. Keynes and the Classics: A Suggested Interpretation.” As a scholar of the Great Depression and Federal Reserve chairman at the time of the modern crisis, Ben Bernanke provides an important intellectual bridge between the historical crisis of the 1930s and the modern crisis of 2007–9. The paper concludes that, while policy practice has changed, the “classical” theory Keynes attacked in 1936 remains hegemonic today. The common (mis-)interpretation of The General Theory as depression economics continues to describe the mainstream’s failure to engage in relevant monetary economics.","PeriodicalId":123550,"journal":{"name":"Financial Crises eJournal","volume":"41 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2020-10-06","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"116372051","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
Firms in the US economy are closely interconnected in a production network and are subject to shocks that propagate within the network. This study examines the liquidity management of firms centrally connected in the network. I show that, while central firms are more exposed to aggregate swings, they maintain higher cash holdings to protect themselves and connected firms against such exposure. Central firms’ cash holding motives are alleviated by firm diversification but are aggravated by industry competition. Such motives are not explained by alternative determinants of cash policies. My findings suggest that systematically important firms proactively dampen the propagation of shocks in the production network.
{"title":"Managing Liquidity in Production Networks: The Role of Central Firms","authors":"Janet Gao","doi":"10.2139/ssrn.2483546","DOIUrl":"https://doi.org/10.2139/ssrn.2483546","url":null,"abstract":"\u0000 Firms in the US economy are closely interconnected in a production network and are subject to shocks that propagate within the network. This study examines the liquidity management of firms centrally connected in the network. I show that, while central firms are more exposed to aggregate swings, they maintain higher cash holdings to protect themselves and connected firms against such exposure. Central firms’ cash holding motives are alleviated by firm diversification but are aggravated by industry competition. Such motives are not explained by alternative determinants of cash policies. My findings suggest that systematically important firms proactively dampen the propagation of shocks in the production network.","PeriodicalId":123550,"journal":{"name":"Financial Crises eJournal","volume":"1 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2020-09-08","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"115312772","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
I estimate the costs of issuing UK government debt by auction from the inception of the market in 1987 through the financial crisis and the phases of QE and into the current period of policy responses to SARS-CoV-2 Issuance costs decreased from the start of QE and have remained stable since, improving slightly in 2020 Variation in issuance costs is mostly explained by benchmark status, volatility and pent-up demand Cost estimates do not show a strong relation to maturity suggesting that no one set of gilt market investors is attracting habitat rents
{"title":"Quantitative Easing and the Cost of Issuing UK Government Debt during SARS-CoV-2, Brexit and the Financial Crisis","authors":"J. Steeley","doi":"10.2139/ssrn.3688454","DOIUrl":"https://doi.org/10.2139/ssrn.3688454","url":null,"abstract":"I estimate the costs of issuing UK government debt by auction from the inception of the market in 1987 through the financial crisis and the phases of QE and into the current period of policy responses to SARS-CoV-2 Issuance costs decreased from the start of QE and have remained stable since, improving slightly in 2020 Variation in issuance costs is mostly explained by benchmark status, volatility and pent-up demand Cost estimates do not show a strong relation to maturity suggesting that no one set of gilt market investors is attracting habitat rents","PeriodicalId":123550,"journal":{"name":"Financial Crises eJournal","volume":"165 1","pages":"0"},"PeriodicalIF":0.0,"publicationDate":"2020-09-07","publicationTypes":"Journal Article","fieldsOfStudy":null,"isOpenAccess":false,"openAccessPdf":"","citationCount":null,"resultStr":null,"platform":"Semanticscholar","paperid":"127306105","PeriodicalName":null,"FirstCategoryId":null,"ListUrlMain":null,"RegionNum":0,"RegionCategory":"","ArticlePicture":[],"TitleCN":null,"AbstractTextCN":null,"PMCID":"","EPubDate":null,"PubModel":null,"JCR":null,"JCRName":null,"Score":null,"Total":0}
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