Adverse Selection and Financial Crises
The recent financial crisis has highlighted the importance of adverse selection as a contributing factor to financial market instability. In this article, the author examines the phenomenon of adverse selection and explains how its presence in a particular market can lead to market freezes and liquidity hoarding. She also describes several mechanisms that can propagate the initially small effect of adverse selection to the entire financial system. Possible policy responses and their effectiveness are also discussed.
Volume (Year): 2010-2011 (2011)
Issue (Month): Winter ()
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