Advanced Search
MyIDEAS: Login

Strategic Complementarity, Fragility, and Regulation

Contents:

Author Info

  • Xavier Vives

    (IESE BUSINESS SCHOOL)

Abstract

The paper analyzes a very stylized model of crises and demonstrates how the degree of strategic complementarity in the actions of investors is an important determinant of fragility. It is shown how the balance sheet composition of a financial intermediary, parameters of the information structure (precisions of public and private information), and the level of stress indicators in the market impinge on strategic complementarity and fragility. The model distinguishes between solvency and liquidity risk and characterizes them. Both a solvency (leverage) and a liquidity ratio are required to control the probabilities of insolvency and illiquidity. It is found that in a more competitive environment (with higher return on short-term debt) the solvency requirement has to be strengthened, and in an environment where the fire sales penalty is higher and fund managers are more conservative the liquidity requirement has to be strengthened while the solvency one relaxed. Higher disclosure or introducing a derivatives market may backfire, aggravating fragility (in particular when the asset side of a financial intermediary is opaque). The model is applied to interpret the 2007 run on SIV and ABCP conduits.

Download Info

If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
File URL: http://www.economicdynamics.org/meetpapers/2012/paper_789.pdf
Download Restriction: no

Bibliographic Info

Paper provided by Society for Economic Dynamics in its series 2012 Meeting Papers with number 789.

as in new window
Length:
Date of creation: 2012
Date of revision:
Handle: RePEc:red:sed012:789

Contact details of provider:
Postal: Society for Economic Dynamics Christian Zimmermann Economic Research Federal Reserve Bank of St. Louis PO Box 442 St. Louis MO 63166-0442 USA
Fax: 1-314-444-8731
Email:
Web page: http://www.EconomicDynamics.org/society.htm
More information through EDIRC

Related research

Keywords:

Other versions of this item:

Find related papers by JEL classification:

This paper has been announced in the following NEP Reports:

References

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
as in new window
  1. Luis Angel Medrano & Xavier Vives, 2004. "Regulating Insider Trading When Investment Matters," Review of Finance, Springer, vol. 8(2), pages 199-277.
  2. Zhiguo He & Wei Xiong, 2009. "Dynamic Debt Runs," NBER Working Papers 15482, National Bureau of Economic Research, Inc.
  3. Stephen Morris & Hyun Song Shin, 1999. "Coordination Risk and the Price of Debt," Cowles Foundation Discussion Papers 1241R, Cowles Foundation for Research in Economics, Yale University, revised Feb 2002.
  4. Rochet, Jean Charles & Vives, Xavier, 2002. "Coordination Failures and the Lender of Last Resort: Was Bagehot Right After All?," CEPR Discussion Papers 3233, C.E.P.R. Discussion Papers.
  5. Federico Echenique, 2002. "Comparative Statics by Adaptive Dynamics and the Correspondence Principle," Econometrica, Econometric Society, vol. 70(2), pages 833-844, March.
  6. Hyun Song Shin, 2009. "Reflections on Northern Rock: The Bank Run That Heralded the Global Financial Crisis," Journal of Economic Perspectives, American Economic Association, vol. 23(1), pages 101-19, Winter.
  7. Brunnermeier, Markus K & Pedersen, Lasse Heje, 2007. "Market Liquidity and Funding Liquidity," CEPR Discussion Papers 6179, C.E.P.R. Discussion Papers.
  8. Frédéric Malherbe, 2010. "Self-fulfilling liquidity dry-ups," Working Paper Research 185, National Bank of Belgium.
  9. Cordella, Tito & Levy Yeyati, Eduardo, 1998. "Public Disclosure and Bank Failures," CEPR Discussion Papers 1886, C.E.P.R. Discussion Papers.
  10. Douglas W. Diamond & Raghuram G. Rajan, 2000. "A Theory of Bank Capital," Journal of Finance, American Finance Association, vol. 55(6), pages 2431-2465, December.
  11. József Sákovics & Jakub Steiner, 2012. "Who Matters in Coordination Problems?," American Economic Review, American Economic Association, vol. 102(7), pages 3439-61, December.
  12. Carlsson, H. & Damme, E.E.C. van, 1990. "Global games and equilibrium selection," Discussion Paper 1990-52, Tilburg University, Center for Economic Research.
  13. Calomiris, Charles W & Kahn, Charles M, 1991. "The Role of Demandable Debt in Structuring Optimal Banking Arrangements," American Economic Review, American Economic Association, vol. 81(3), pages 497-513, June.
  14. Viral Acharya & Tanju Yorulmazer, 2007. "Too many to fail - an analysis of time-inconsistency in bank closure policies," Bank of England working papers 319, Bank of England.
  15. Gary B. Gorton, 2008. "The Subprime Panic," NBER Working Papers 14398, National Bureau of Economic Research, Inc.
  16. Jacklin, Charles J & Bhattacharya, Sudipto, 1988. "Distinguishing Panics and Information-Based Bank Runs: Welfare and Policy Implications," Journal of Political Economy, University of Chicago Press, vol. 96(3), pages 568-92, June.
  17. Giancarlo Corsetti & Amil Dasgupta & Stephen Morris & Hyun Song Shin, 2004. "Does One Soros Make a Difference? A Theory of Currency Crises with Large and Small Traders," Review of Economic Studies, Wiley Blackwell, vol. 71(1), pages 87-113, 01.
  18. Douglas Gale & Xavier Vives, 2001. "Dollarization, bailouts, and the stability of the banking system," Proceedings 729, Federal Reserve Bank of Chicago.
  19. Enrico Perotti & Javier Suarez, 2011. "A Pigovian Approach to Liquidity Regulation," International Journal of Central Banking, International Journal of Central Banking, vol. 7(4), pages 3-41, December.
  20. Ivashina, Victoria & Scharfstein, David, 2010. "Bank lending during the financial crisis of 2008," Journal of Financial Economics, Elsevier, vol. 97(3), pages 319-338, September.
  21. Tobias Adrian & Hyun Song Shin, 2010. "The changing nature of financial intermediation and the financial crisis of 2007-09," Staff Reports 439, Federal Reserve Bank of New York.
  22. Diamond, Douglas W & Dybvig, Philip H, 1983. "Bank Runs, Deposit Insurance, and Liquidity," Journal of Political Economy, University of Chicago Press, vol. 91(3), pages 401-19, June.
  23. Acharya, Viral V. & Gale, Douglas M & Yorulmazer, Tanju, 2009. "Rollover Risk and Market Freezes," CEPR Discussion Papers 7122, C.E.P.R. Discussion Papers.
  24. Markus K. Brunnermeier, 2009. "Deciphering the Liquidity and Credit Crunch 2007-2008," Journal of Economic Perspectives, American Economic Association, vol. 23(1), pages 77-100, Winter.
  25. Pietro Veronesi & Luigi Zingales, 2009. "Paulson's Gift," NBER Working Papers 15458, National Bureau of Economic Research, Inc.
  26. Martha A. Starr & Rasim Yilmaz, 2007. "Bank Runs in Emerging-Market Economies: Evidence from Turkey's Special Finance Houses," Southern Economic Journal, Southern Economic Association, vol. 73(4), pages 1112–1132, April.
  27. Vives, Xavier, 2009. "Asset auctions, information and liquidity," IESE Research Papers D/837, IESE Business School.
  28. George-Marios Angeletos & Ivan Werning, 2004. "Crises and Prices: Information Aggregation, Multiplicity and Volatility," NBER Working Papers 11015, National Bureau of Economic Research, Inc.
  29. V. Tambovtsev., 2009. "Financial Crisis and Economics," VOPROSY ECONOMIKI, N.P. Redaktsiya zhurnala "Voprosy Economiki", vol. 1.
  30. Morris, Stephen & Shin, Hyun Song, 1998. "Unique Equilibrium in a Model of Self-Fulfilling Currency Attacks," American Economic Review, American Economic Association, vol. 88(3), pages 587-97, June.
  31. Postlewaite, Andrew & Vives, Xavier, 1987. "Bank Runs as an Equilibrium Phenomenon," Journal of Political Economy, University of Chicago Press, vol. 95(3), pages 485-91, June.
  32. Viral V. Acharya & Ouarda Merrouche, 2010. "Precautionary Hoarding of Liquidity and Inter-Bank Markets: Evidence from the Sub-prime Crisis," NBER Working Papers 16395, National Bureau of Economic Research, Inc.
  33. Charles W. Calomiris & Joseph R. Mason, 2003. "Fundamentals, Panics, and Bank Distress During the Depression," American Economic Review, American Economic Association, vol. 93(5), pages 1615-1647, December.
  34. Andrew Hertzberg & José María Liberti & Daniel Paravisini, 2011. "Public Information and Coordination: Evidence from a Credit Registry Expansion," Journal of Finance, American Finance Association, vol. 66(2), pages 379-412, 04.
  35. Franklin Allen & Douglas Gale, 2004. "Competition and financial stability," Proceedings, Federal Reserve Bank of Cleveland, pages 453-486.
  36. Garratt, Rod & Keister, Todd, 2009. "Bank runs as coordination failures: An experimental study," Journal of Economic Behavior & Organization, Elsevier, vol. 71(2), pages 300-317, August.
  37. Acharya, Viral V. & Schnabl, Philipp & Suarez, Gustavo, 2013. "Securitization without risk transfer," Journal of Financial Economics, Elsevier, vol. 107(3), pages 515-536.
  38. Williams, Joseph, 1988. " Banking Panics, Information, and Rational Expectations Equilibrium: Discussion," Journal of Finance, American Finance Association, vol. 43(3), pages 761-63, July.
  39. Bryant, John, 1980. "A model of reserves, bank runs, and deposit insurance," Journal of Banking & Finance, Elsevier, vol. 4(4), pages 335-344, December.
  40. Gorton, Gary, 1988. "Banking Panics and Business Cycles," Oxford Economic Papers, Oxford University Press, vol. 40(4), pages 751-81, December.
  41. Lawrence Sáez & Xianwen Shi, 2004. "Liquidity Pools, Risk Sharing, and Financial Contagion," Journal of Financial Services Research, Springer, vol. 25(1), pages 5-23, February.
  42. Wagner, Wolf, 2007. "Financial development and the opacity of banks," Economics Letters, Elsevier, vol. 97(1), pages 6-10, October.
  43. Corsetti, Giancarlo & Guimaraes, Bernardo & Roubini, Nouriel, 2006. "International lending of last resort and moral hazard: A model of IMF's catalytic finance," Journal of Monetary Economics, Elsevier, vol. 53(3), pages 441-471, April.
  44. Diamond, Douglas W, 1984. "Financial Intermediation and Delegated Monitoring," Review of Economic Studies, Wiley Blackwell, vol. 51(3), pages 393-414, July.
  45. S. Rao Aiyagari, 1988. "Banking panics, information, and rational expectations equilibrium," Working Papers 320, Federal Reserve Bank of Minneapolis.
  46. Daniel M. Covitz & Nellie Liang & Gustavo A. Suarez, 2009. "The evolution of a financial crisis: panic in the asset-backed commercial paper market," Finance and Economics Discussion Series 2009-36, Board of Governors of the Federal Reserve System (U.S.).
  47. Winton, Andrew, 1997. "Competition among Financial Intermediaries When Diversification Matters," Journal of Financial Intermediation, Elsevier, vol. 6(4), pages 307-346, October.
  48. Antonio E. Bernardo & Ivo Welch, 2004. "Liquidity and Financial Market Runs," The Quarterly Journal of Economics, MIT Press, vol. 119(1), pages 135-158, February.
  49. Rocco Huang & Lev Ratnovski, 2009. "Why Are Canadian Banks More Resilient?," IMF Working Papers 09/152, International Monetary Fund.
  50. Van Zandt, Timothy & Vives, Xavier, 2003. "Monotone Equilibria in Bayesian Games of Strategic Complementarities," CEPR Discussion Papers 4103, C.E.P.R. Discussion Papers.
  51. Cooper, Russell & John, Andrew, 1988. "Coordinating Coordination Failures in Keynesian Models," The Quarterly Journal of Economics, MIT Press, vol. 103(3), pages 441-63, August.
  52. Schotter, Andrew & Yorulmazer, Tanju, 2009. "On the dynamics and severity of bank runs: An experimental study," Journal of Financial Intermediation, Elsevier, vol. 18(2), pages 217-241, April.
  53. Itay Goldstein & Ady Pauzner, 2005. "Demand-Deposit Contracts and the Probability of Bank Runs," Journal of Finance, American Finance Association, vol. 60(3), pages 1293-1327, 06.
  54. Milton Friedman & Anna J. Schwartz, 1963. "A Monetary History of the United States, 1867-1960," NBER Books, National Bureau of Economic Research, Inc, number frie63-1, May.
  55. Corsetti, Giancarlo & Guimarães, Bernardo & Roubini, Nouriel, 2004. "International Lending of Last Resort and Moral Hazard: A Model of the IMF's Catalytic Finance," CEPR Discussion Papers 4383, C.E.P.R. Discussion Papers.
  56. Stephen Morris & Hyun Song Shin, 2002. "Social Value of Public Information," American Economic Review, American Economic Association, vol. 92(5), pages 1521-1534, December.
  57. Nikola A. Tarashev, 2007. "Speculative Attacks and the Information Role of the Interest Rate," Journal of the European Economic Association, MIT Press, vol. 5(1), pages 1-36, 03.
  58. Matutes, Carmen & Vives, Xavier, 1996. "Competition for Deposits, Fragility, and Insurance," Journal of Financial Intermediation, Elsevier, vol. 5(2), pages 184-216, April.
  59. Chen, Qi & Goldstein, Itay & Jiang, Wei, 2010. "Payoff complementarities and financial fragility: Evidence from mutual fund outflows," Journal of Financial Economics, Elsevier, vol. 97(2), pages 239-262, August.
  60. Philippe Madi�s, 2006. "An Experimental Exploration of Self-Fulfilling Banking Panics: Their Occurrence, Persistence, and Prevention," The Journal of Business, University of Chicago Press, vol. 79(4), pages 1831-1866, July.
  61. Chari, V V & Jagannathan, Ravi, 1988. " Banking Panics, Information, and Rational Expectations Equilibrium," Journal of Finance, American Finance Association, vol. 43(3), pages 749-61, July.
  62. repec:dgr:uvatin:2011040 is not listed on IDEAS
  63. Roberto Chang & Andrés Velasco, 2001. "A Model Of Financial Crises In Emerging Markets," The Quarterly Journal of Economics, MIT Press, vol. 116(2), pages 489-517, May.
Full references (including those not matched with items on IDEAS)

Citations

Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
as in new window

Cited by:
  1. Diana Bonfim & Moshe Kim, 2012. "Liquidity risk in banking: is there herding?," Working Papers w201218, Banco de Portugal, Economics and Research Department.
  2. Di Maggio, Marco & Pagano, Marco, 2012. "Financial Disclosure and Market Transparency with Costly Information Processing," CEPR Discussion Papers 9207, C.E.P.R. Discussion Papers.

Lists

This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

Statistics

Access and download statistics

Corrections

When requesting a correction, please mention this item's handle: RePEc:red:sed012:789. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Christian Zimmermann).

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.