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Monitoring Leverage

In: Risk Topography: Systemic Risk and Macro Modeling

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  • John Geanakoplos
  • Lasse Heje Pedersen

Abstract

We discuss how leverage can be monitored for institutions, individuals, and assets. While traditionally the interest rate has been regarded as the important feature of a loan, we argue that leverage is sometimes even more important. Monitoring leverage provides information about how risk builds up during booms as leverage rises and how crises start when leverage on new loans sharply declines. Leverage data is also a crucial input for crisis management and lending facilities. Leverage at the asset level can be monitored by down payments or margin requirement or and haircuts, giving a model-free measure that can be observed directly, in contrast to other measures of systemic risk that require complex estimation. Asset leverage is a fundamental measure of systemic risk and so is important in itself, but it is also the building block out of which measures of institutional leverage and household leverage can be most accurately and informatively constructed.
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Suggested Citation

  • John Geanakoplos & Lasse Heje Pedersen, 2012. "Monitoring Leverage," NBER Chapters, in: Risk Topography: Systemic Risk and Macro Modeling, pages 113-127, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberch:12549
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    References listed on IDEAS

    as
    1. Bengt Holmstrom & Jean Tirole, 1997. "Financial Intermediation, Loanable Funds, and The Real Sector," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 112(3), pages 663-691.
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    6. Andrea Frazzini & Lasse Heje Pedersen, 2022. "Embedded Leverage [Asset pricing with liquidity risk]," The Review of Asset Pricing Studies, Society for Financial Studies, vol. 12(1), pages 1-52.
    7. Frazzini, Andrea & Pedersen, Lasse Heje, 2014. "Betting against beta," Journal of Financial Economics, Elsevier, vol. 111(1), pages 1-25.
    8. Markus K. Brunnermeier & Lasse Heje Pedersen, 2009. "Market Liquidity and Funding Liquidity," The Review of Financial Studies, Society for Financial Studies, vol. 22(6), pages 2201-2238, June.
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    11. Adam Ashcraft & Nicolae Gârleanu & Lasse Heje Pedersen, 2011. "Two Monetary Tools: Interest Rates and Haircuts," NBER Chapters, in: NBER Macroeconomics Annual 2010, volume 25, pages 143-180, National Bureau of Economic Research, Inc.
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    Blog mentions

    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. Leverage and Risk
      by Steve Cecchetti and Kim Schoenholtz in Money, Banking and Financial Markets on 2016-05-02 17:18:50

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    Cited by:

    1. Bakoush, Mohamed & Gerding, Enrico H. & Wolfe, Simon, 2019. "Margin requirements and systemic liquidity risk," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 58(C), pages 78-95.
    2. Lee, Seung Jung & Posenau, Kelly E. & Stebunovs, Viktors, 2020. "The anatomy of financial vulnerabilities and banking crises," Journal of Banking & Finance, Elsevier, vol. 112(C).

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    More about this item

    JEL classification:

    • D52 - Microeconomics - - General Equilibrium and Disequilibrium - - - Incomplete Markets
    • D53 - Microeconomics - - General Equilibrium and Disequilibrium - - - Financial Markets
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • G01 - Financial Economics - - General - - - Financial Crises
    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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