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Contingent Capital with Stock Price Triggers in Interbank Networks

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  • Anne G. Balter
  • Nikolaus Schweizer
  • Juan C. Vera

Abstract

This paper studies existence and uniqueness of equilibrium prices in a model of the banking sector in which banks trade contingent convertible bonds with stock price triggers among each other. This type of financial product was proposed as an instrument for stabilizing the global banking system after the financial crisis. Yet it was recognized early on that these products may create circularity problems in the definition of stock prices - even in the absence of trade. We find that if conversion thresholds are such that bond holders are indifferent about marginal conversions, there exists a unique equilibrium irrespective of the network structure. When thresholds are lower, existence of equilibrium breaks down while higher thresholds may lead to multiplicity of equilibria. Moreover, there are complex network effects. One bank's conversion may trigger further conversions - or prevent them, depending on the constellations of asset values and conversion triggers.

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  • Anne G. Balter & Nikolaus Schweizer & Juan C. Vera, 2020. "Contingent Capital with Stock Price Triggers in Interbank Networks," Papers 2011.06474, arXiv.org.
    • Handle: RePEc:arx:papers:2011.06474
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    References listed on IDEAS

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    Cited by:

    1. Li, Ping & Guo, Yanhong & Meng, Hui, 2022. "The default contagion of contingent convertible bonds in financial network," The North American Journal of Economics and Finance, Elsevier, vol. 60(C).

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