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The costs and benefits of moral suasion: evidence from the rescue of Long-Term Capital Management

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  • Craig Furfine
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    Abstract

    This study examines the level of unsecured borrowing done by the firms that would ultimately rescue Long-Term Capital Management in the days leading up to the hedge fund's rescue. Although there is some evidence that these banks borrowed less at the height of the crisis, further examination reveals that this reduction in borrowing was demand-driven and did not result from rationing on the part of the market. This suggests that the market believed that the troubles at LTCM would not have solvency-threatening repercussions for the fund's major creditors. Further, it is shown that large banks that were not involved with the LTCM rescue saw the rates they pay for unsecured funds decline following the hedge fund's resolution. This finding is consistent with an increase in the perceived strength of a too-big-to-fail policy.

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    File URL: http://www.chicagofed.org/digital_assets/publications/working_papers/2002/wp2002-11.pdf
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    Bibliographic Info

    Paper provided by Federal Reserve Bank of Chicago in its series Working Paper Series with number WP-02-11.

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    Date of creation: 2002
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    Handle: RePEc:fip:fedhwp:wp-02-11

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    Keywords: Banks and banking - Costs ; Bank capital ; Hedge funds;

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    Cited by:
    1. Evan Gatev & Til Schuermann & Philip E. Strahan, 2006. "Managing Bank Liquidity Risk: How Deposit-Loan Synergies Vary with Market Conditions," NBER Working Papers 12234, National Bureau of Economic Research, Inc.
    2. Philip Strahan, 2008. "Liquidity Production in 21st Century Banking," NBER Working Papers 13798, National Bureau of Economic Research, Inc.
    3. Evan Gatev & Philip Strahan, 2008. "Liquidity Risk and Syndicate Structure," NBER Working Papers 13802, National Bureau of Economic Research, Inc.

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