Questions and Answers about the Financial Crisis
AbstractAll bond prices plummeted (spreads rose) during the financial crisis, not just the prices of subprimerelated bonds. These price declines were due to a banking panic in which institutional investors and firms refused to renew sale and repurchase agreements (repo) – short?term, collateralized, agreements that the Fed rightly used to count as money. Collateral for repo was, to a large extent, securitized bonds. Firms were forced to sell assets as a result of the banking panic, reducing bond prices and creating losses. There is nothing mysterious or irrational about the panic. There were genuine fears about the locations of subprime risk concentrations among counterparties. This banking system (the “shadow” or “parallel” banking system) - repo based on securitization - is a genuine banking system, as large as the traditional, regulated and banking system. It is of critical importance to the economy because it is the funding basis for the traditional banking system. Without it, traditional banks will not lend and credit, which is essential for job creation, will not be created.
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Bibliographic InfoPaper provided by Regulation2point0 in its series Working paper with number 41.
Date of creation: Feb 2010
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- G01 - Financial Economics - - General - - - Financial Crises
- G1 - Financial Economics - - General Financial Markets
- G2 - Financial Economics - - Financial Institutions and Services
This paper has been announced in the following NEP Reports:
- NEP-ALL-2010-08-14 (All new papers)
- NEP-BAN-2010-08-14 (Banking)
- NEP-FMK-2010-08-14 (Financial Markets)
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- Chiarella, Carl & Flaschel, Peter & Hartmann, Florian & Proaño, Christian R., 2012. "Stock market booms, endogenous credit creation and the implications of broad and narrow banking for macroeconomic stability," Journal of Economic Behavior & Organization, Elsevier, vol. 83(3), pages 410-423.
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