Arbeitspapier

Adverse selection, liquidity, and market breakdown

This paper studies the interaction between adverse selection, liquidity risk and beliefs about systemic risk in determining market liquidity, asset prices and welfare. Even a small amount of adverse selection in the asset market can lead to fire-sale pricing and possibly to a market breakdown if it is accompanied by a flight-to-liquidity, a misassessment of systemic risk, or uncertainty about asset values. The ability to trade based on private information improves welfare if adverse selection does not lead to a market breakdown. Informed trading allows financial institutions to reduce idiosyncratic risks, but it exacerbates their exposure to systemic risk. Further, I show that in a market equilibrium, financial institutions overinvest into risky illiquid assets (relative to the constrained efficient allocation), which creates systemic externalities. Also, I explore possible policy responses and discuss their effectiveness.

Sprache
Englisch

Erschienen in
Series: Bank of Canada Working Paper ; No. 2010-32

Klassifikation
Wirtschaft
Financial Crises
Portfolio Choice; Investment Decisions
Asymmetric and Private Information; Mechanism Design
Thema
Financial institutions
Financial markets
Financial stability

Ereignis
Geistige Schöpfung
(wer)
Kirabaeva, Koralai
Ereignis
Veröffentlichung
(wer)
Bank of Canada
(wo)
Ottawa
(wann)
2010

DOI
doi:10.34989/swp-2010-32
Handle
Letzte Aktualisierung
10.03.2025, 11:43 MEZ

Datenpartner

Dieses Objekt wird bereitgestellt von:
ZBW - Deutsche Zentralbibliothek für Wirtschaftswissenschaften - Leibniz-Informationszentrum Wirtschaft. Bei Fragen zum Objekt wenden Sie sich bitte an den Datenpartner.

Objekttyp

  • Arbeitspapier

Beteiligte

  • Kirabaeva, Koralai
  • Bank of Canada

Entstanden

  • 2010

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