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Global Imbalances and Financial Fragility

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  • Ricardo J. Caballero
  • Arvind Krishnamurthy

Abstract

The U.S. is currently engulfed in the most severe financial crisis since the Great Depression. A key structural factor behind this crisis is the large demand for riskless assets from the rest of the world. In this paper we present a model to show how such demand not only triggered a sharp rise in U.S. asset prices, but also exposed the U.S. financial sector to a downturn by concentrating risk onto its balance sheet. In addition to highlighting the role of capital flows in facilitating the securitization boom, our analysis speaks to the broader issue of global imbalances. While in emerging markets the concern with capital flows is in their speculative nature, in the U.S. the risk in capital inflows derives from the opposite concern: capital flows into the U.S. are mostly non-speculative and in search of safety. As a result, the U.S. sells riskless assets to foreigners, and in so doing, it raises the effective leverage of its financial institutions. In other words, as global imbalances rise, the U.S. increasingly specializes in holding its "toxic waste."

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File URL: http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.2.584
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Bibliographic Info

Article provided by American Economic Association in its journal American Economic Review.

Volume (Year): 99 (2009)
Issue (Month): 2 (May)
Pages: 584-88

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Handle: RePEc:aea:aecrev:v:99:y:2009:i:2:p:584-88

Note: DOI: 10.1257/aer.99.2.584
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  1. Ricardo J. Caballero & Emmanuel Farhi & Pierre-Olivier Gourinchas, 2006. "An Equilibrium Model of Global Imbalances and Low Interest Rates," 2006 Meeting Papers 894, Society for Economic Dynamics.
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As found by EconAcademics.org, the blog aggregator for Economics research:
  1. Global Imbalances: Links to Economic and Financial Stability
    by Guest Author in the big picture on 2011-02-21 15:09:05
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Cited by:
  1. Nicola Gennaioli, 2012. "A Model of Shadow Banking," 2012 Meeting Papers 89, Society for Economic Dynamics.
  2. Clovis Kerdrain & Isabell Koske & Isabelle Wanner, 2011. "Current Account Imbalances: can Structural Reforms Help to Reduce Them?," OECD Journal: Economic Studies, OECD Publishing, vol. 2011(1), pages 1-44.
  3. Noyer, C., 2011. "Global imbalances and financial stability," Financial Stability Review, Banque de France, issue 15, pages 107-112, February.
  4. Bernanke, B.S., 2011. "International capital flows and the returns to safe assets in the United States 2003-2007," Financial Stability Review, Banque de France, issue 15, pages 13-26, February.
  5. Sen Gupta, Abhijit, 2010. "Prospects for a Single Asian Currency," MPRA Paper 40181, University Library of Munich, Germany.
  6. Frank Packer & Timothy Riddiough, 2012. "Securitisation and the Commercial Property Cycle," RBA Annual Conference Volume, in: Alexandra Heath & Frank Packer & Callan Windsor (ed.), Property Markets and Financial Stability Reserve Bank of Australia.
  7. Piffaretti, Nadia F., 2009. "Reshaping the international monetary architecture : lessons from Keynes'plan," Policy Research Working Paper Series 5034, The World Bank.
  8. Muradali V. Ibrahimo & Carlos P. Barros, 2009. "Unlearned Lessons from Risk, Debt Service, Bank Credit, and Asymmetric Information," Working Papers 2009/43, Department of Economics at the School of Economics and Management (ISEG), Technical University of Lisbon..
  9. Stijn Van Nieuwerburgh, 2012. "The Research Agenda: Stijn Van Nieuwerburgh on Housing and the Macroeconomy," EconomicDynamics Newsletter, Review of Economic Dynamics, vol. 13(2), April.
  10. Ugo Albertazzi & Ginette Eramo & Leonardo Gambacorta & Carmelo Salleo, 2011. "Securitization is not that evil after all," Temi di discussione (Economic working papers) 796, Bank of Italy, Economic Research and International Relations Area.
  11. Thomas Goda & Photis Lysandrou, 2011. "The contribution of wealth concentration to the subprime crisis: a quantitative estimation," DOCUMENTOS DE TRABAJO CIEF 010718, UNIVERSIDAD EAFIT.
  12. Roe, Terry L. & Shane, Mathew & Heerman, Kari, 2011. "Macroeconomic Imbalances in the World Economy," Working Papers 109244, University of Minnesota, Center for International Food and Agricultural Policy.
  13. Stéphane Colliac & Antoine Bouveret, 2010. "Commentaire : Déséquilibres mondiaux, errances de la régulation et crise de la finance globalisée," Économie et Statistique, Programme National Persée, vol. 438(1), pages 105-110.
  14. Andrei Shleifer & Robert W. Vishny, 2009. "Unstable Banking," NBER Working Papers 14943, National Bureau of Economic Research, Inc.
  15. Maurizio Michael Habib, 2010. "Excess returns on net foreign assets - the exorbitant privilege from a global perspective," Working Paper Series 1158, European Central Bank.

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