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Vulnerable Banks

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  • Robin Greenwood
  • Augustin Landier
  • David Thesmar

Abstract

When a bank experiences a negative shock to its equity, one way to return to target leverage is to sell assets. If asset sales occur at depressed prices, then one bank’s sales may impact other banks with common exposures, resulting in contagion. We propose a simple framework that accounts for how this effect adds up across the banking sector. Our framework explains how the distribution of bank leverage and risk exposures contributes to a form of systemic risk. We compute bank exposures to system-wide deleveraging, as well as the spillover of a single bank’s deleveraging onto other banks. We show how our model can be used to evaluate a variety of crisis interventions, such as mergers of good and bad banks and equity injections. We apply the framework to European banks vulnerable to sovereign risk in 2010 and 2011.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 18537.

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Date of creation: Nov 2012
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Handle: RePEc:nbr:nberwo:18537

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References

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  1. Allen, Franklin & Babus, Ana & Carletti, Elena, 2013. "Asset Commonality, Debt Maturity and Systemic Risk," Working Papers 10-30, University of Pennsylvania, Wharton School, Weiss Center.
  2. Francis X. Diebold & Kamil Yilmaz, 2011. "On the Network Topology of Variance Decompositions: Measuring the Connectedness of Financial Firms," Koç University-TUSIAD Economic Research Forum Working Papers 1124, Koc University-TUSIAD Economic Research Forum.
  3. Franklin Allen & Ana Babus & Elena Carletti, 2010. "Financial Connections and Systemic Risk," Economics Working Papers ECO2010/26, European University Institute.
  4. Greenwood, Robin & Thesmar, David, 2011. "Stock price fragility," Journal of Financial Economics, Elsevier, vol. 102(3), pages 471-490.
  5. Andrei Shleifer & Robert Vishny, 2011. "Fire Sales in Finance and Macroeconomics," Journal of Economic Perspectives, American Economic Association, vol. 25(1), pages 29-48, Winter.
  6. Sebnem Kalemli-Ozcan & Elias Papaioannou & José Luis Peydró, 2009. "Financial Regulation, Financial Globalization and the Synchronization of Economic Activity," NBER Working Papers 14887, National Bureau of Economic Research, Inc.
  7. Shleifer, Andrei & Vishny, Robert W, 1992. " Liquidation Values and Debt Capacity: A Market Equilibrium Approach," Journal of Finance, American Finance Association, vol. 47(4), pages 1343-66, September.
  8. repec:fip:fedhpr:y:2010:i:may:p:65-71 is not listed on IDEAS
  9. Jotikasthira, Chotibhak & Lundblad, Christian T. & Ramadorai, Tarun, 2009. "Asset fire sales and purchases and the international transmission of financial shocks," CEPR Discussion Papers 7595, C.E.P.R. Discussion Papers.
  10. Wolf Wagner, 2011. "Systemic Liquidation Risk and the Diversity–Diversification Trade‐Off," Journal of Finance, American Finance Association, vol. 66(4), pages 1141-1175, 08.
  11. Viral V. Acharya, 2010. "Measuring systemic risk," Proceedings 1140, Federal Reserve Bank of Chicago.
  12. Stefano Giglio, 2011. "Credit default swap spreads and systemic financial risk," Proceedings 1122, Federal Reserve Bank of Chicago.
  13. Adrian, Tobias & Shin, Hyun Song, 2010. "Liquidity and leverage," Journal of Financial Intermediation, Elsevier, vol. 19(3), pages 418-437, July.
  14. Daron Acemoglu & Asuman Ozdaglar & Alireza Tahbaz-Salehi, 2010. "Cascades in Networks and Aggregate Volatility," NBER Working Papers 16516, National Bureau of Economic Research, Inc.
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Cited by:
  1. Ignacio Lozano & Alexander Guarín, 2014. "Banking Fragility in Colombia: An Empirical Analysis Based on Balance Sheets," Borradores de Economia 813, Banco de la Republica de Colombia.

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