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Liquidity and leverage

  • Tobias Adrian
  • Hyun Song Shin

In a financial system in which balance sheets are continuously marked to market, asset price changes appear immediately as changes in net worth, prompting financial intermediaries to adjust the size of their balance sheets. We present evidence that marked-to-market leverage is strongly procyclical and argue that such behavior has aggregate consequences. Changes in dealer repurchase agreements (repos) -the primary margin of adjustment for the aggregate balance sheets of intermediaries - forecast changes in financial market risk as measured by the innovations in the Chicago Board Options Exchange Volatility Index (VIX). Aggregate liquidity can be seen as the rate of change of the aggregate balance sheet of the financial intermediaries.>

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Paper provided by Federal Reserve Bank of New York in its series Staff Reports with number 328.

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Date of creation: 2008
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Handle: RePEc:fip:fednsr:328
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  1. John Kambhu, 2006. "Trading risk, market liquidity, and convergence trading in the interest rate swap spread," Economic Policy Review, Federal Reserve Bank of New York, issue May, pages 1-13.
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  8. Ivo Welch, 2002. "Capital Structure and Stock Returns," Yale School of Management Working Papers ysm263, Yale School of Management, revised 01 Aug 2003.
  9. Tim Bollerslev & Tzuo Hao & George Tauchen, 2008. "Expected Stock Returns and Variance Risk Premia," CREATES Research Papers 2008-48, School of Economics and Management, University of Aarhus.
  10. Raghuram G. Rajan, 2005. "Has Financial Development Made the World Riskier?," Working Papers id:248, eSocialSciences.
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  14. Bernanke, Ben S & Blinder, Alan S, 1988. "Credit, Money, and Aggregate Demand," American Economic Review, American Economic Association, vol. 78(2), pages 435-39, May.
  15. Tobias Adrian & Michael J. Fleming, 2005. "What financing data reveal about dealer leverage," Current Issues in Economics and Finance, Federal Reserve Bank of New York, vol. 11(Mar).
  16. Skander Van den Heuvel, 2006. "The Bank Capital Channel of Monetary Policy," 2006 Meeting Papers 512, Society for Economic Dynamics.
  17. Stephen Morris & Hyun Song Shin, 2003. "Liquidity Black Holes," Cowles Foundation Discussion Papers 1434, Cowles Foundation for Research in Economics, Yale University.
  18. Jon Danielsson & Hyun Song Shin & Jean-Pierre Zigrand, 2004. "The impact of risk regulation on price dynamics," LSE Research Online Documents on Economics 16628, London School of Economics and Political Science, LSE Library.
  19. Bernanke, Ben & Gertler, Mark, 1989. "Agency Costs, Net Worth, and Business Fluctuations," American Economic Review, American Economic Association, vol. 79(1), pages 14-31, March.
  20. Jeremy C. Stein & Anil K. Kashyap, 2000. "What Do a Million Observations on Banks Say about the Transmission of Monetary Policy?," American Economic Review, American Economic Association, vol. 90(3), pages 407-428, June.
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  25. Tobias Adrian & Joshua Rosenberg, 2006. "Stock returns and volatility: pricing the short-run and long-run components of market risk," Staff Reports 254, Federal Reserve Bank of New York.
  26. Peter Carr & Liuren Wu, 2009. "Variance Risk Premiums," Review of Financial Studies, Society for Financial Studies, vol. 22(3), pages 1311-1341, March.
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