Arbeitspapier

Information acquisition and liquidity dry-ups

We analyze a novel feedback mechanism between market and funding liquidity that causes self-fulfilling liquidity dry-ups. Financial firms facing funding withdrawals have an incentive to acquire information about their assets. Those with good assets gain by resorting to outside liquidity sources and withhold assets from secondary markets. This leads to adverse selectrion and lowers market prices. If prices fall by enough, funding withdrawals are amplified and market and funding illiquidity become mutually reinforcing. We compare different policy measures that can mitigate the risk of inefficient liquidity dry-ups. While outright debt purchases can implement the efficient allocation, liquidity injections may backfire and exacerbate adverse selection.

Language
Englisch

Bibliographic citation
Series: SFB 649 Discussion Paper ; No. 2016-045

Classification
Wirtschaft
Asymmetric and Private Information; Mechanism Design
Financial Crises
Asset Pricing; Trading Volume; Bond Interest Rates
Subject
Information Acquisition
Market Liquidity
Financial Crises

Event
Geistige Schöpfung
(who)
Koenig, Philipp
Pothier, David
Event
Veröffentlichung
(who)
Humboldt University of Berlin, Collaborative Research Center 649 - Economic Risk
(where)
Berlin
(when)
2016

Handle
Last update
10.03.2025, 11:44 AM CET

Data provider

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Object type

  • Arbeitspapier

Associated

  • Koenig, Philipp
  • Pothier, David
  • Humboldt University of Berlin, Collaborative Research Center 649 - Economic Risk

Time of origin

  • 2016

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