Papers

Published/Forthcoming Papers (links are to working paper versions)

Exchange Rate Volatility and the Credit Channel in Emerging Markets: A Vertical Perspective (joint with R. Caballero) International Journal of Central Banking

Limits of Arbitrage: Theory and Evidence from the Mortgage Backed Securities Market (with X. Gabaix and O. Vigneron) Journal of Finance

Bubbles and Capital Flow Volatility: Causes and Risk Management (joint with R. Caballero) Journal of Monetary Economics, Carnegie-Rochester Series

Collective Risk Management in a Flight to Quality Episode (joint with R. Caballero) Journal of Finance

(Financial System Risk and Flight to Quality (joint with R. Caballero) [OLDER VERSION, WITH DYNAMIC MODEL] )

Financial Fragility and Global Imbalances, (joint with R. Caballero), AER Papers and Proceedings

Link to Bernanke, et al, G20 speech and paper that cites this paper. Link

Amplification Mechanisms in Liquidity Crises, American Economic Journals-Macroeconomics

How Debt Markets have Malfunctioned in the Crisis, Journal of Economic Perspectives

Balance Sheet Adjustment (joint with Z. He and I.G. Khang), IMF Economic Review, SLIDES

A Model of Capital and Crises (joint with Z. He), Review of Economic Studies, SLIDES

The Effects of Quantitative Easing on Interest Rates: Channels and Implications for Policy (with Annette Vissing-Jorgensen), Brookings Papers on Economic Activity

A Macro-Prudential Framework for Liquidity Regulation

A short note on how the central bank could regulate liquidity in a macroprudential context. Basel 3 is not macroprudential. There is enough academic research to draw from to suggest how to adapt Basel 3 to make it macroprudential.

A Macroeconomic Framework for Quantifying Systemic Risk (joint with Z. He)

Systemic risk arises when shocks lead to states where a disruption in financial intermediation adversely affects the economy and feeds back into further disrupting financial intermediation. We present a macroeconomic model with a financial intermediary sector subject to an equity capital constraint. The novel aspect of our analysis is that the model's solution is a stochastic steady state in which only some of the states correspond to systemic risk states. This model allows us to examine the transition from ``normal" states to systemic risk states. We calibrate our model and use itto match the systemic risk apparent during the 2007/2008 financial crisis.

Sizing up Repo (with Stefan Nagel and Dmitry Orlov)

We measure the repo funding extended by money market funds and securities lenders to the shadow banking system, including quantities, haircuts, and repo rates sorted by the type of underlying collateral. Both the quantity and price data suggest that there was a run on repo backed by non-Agency MBS/ABS collateral. However, to gauge the consequences of such a run one must also take into account that prior to the financial crisis only about 3% of outstanding non-Agency MBS/ABS is financed with repo from money market funds and securities lenders. The contraction in the quantity of repo funding of non-Agency MBS/ABS during the financial crisis is an order of magnitude smaller than the contraction in short-term funding through asset-backed commercial paper and direct holdings of securitized assets by money market funds and securities lenders. The repo market for Treasury and Agency collateral functioned near-normally during the crisis. While the contraction in aggregate repo funding with non-Agency MBS/ABS was small, dealer banks with a larger exposure to private debt securities were affected more strongly and resorted to the Fed's emergency lending programs for funding.

Risk Topography (with Markus Brunnermeier and Gary Gorton)

The aim of this paper is to conceptualize and design a risk topography that outlines a data acquisition and dissemination process that informs policy makers, researchers and market participants about systemic risk. Our approach emphasizes that systemic risk (i) typically builds up in the background before materializing in a crisis and (ii) is determined by market participants' response to various shocks. To this end we propose a two-step approach: First, regulators elicit from market participants their (partial equilibrium) risk as well as liquidity sensitivities with respect to major risk factors and liquidity scenarios. By doing so, one takes advantage of private sector internal risk models and over time an informative panel data set is obtained. Second, general equilibrium responses and economy-wide system effects are calibrated using this panel data set.

Slides

Slides for Liquidity Mismatch Index

Intermediary Asset Pricing (joint with Z. He)

We present a model to study the dynamics of risk premia during crises in asset markets where the marginal investor is a financial intermediary. Intermediaries face a constraint on raising equity capital. When the constraint binds, so that intermediaries' equity capital is scarce, risk premia rise to reflect the capital scarcity. We calibrate the model and show that it does well in matching two aspects of crises: the nonlinearity of risk premia during crisis episodes; and, the speed of adjustment in risk premia from a crisis back to pre-crisis levels. We use the model to quantitatively evaluate the effectiveness of a variety of central bank policies, including reducing intermediaries' borrowing costs, infusing equity capital, and directly intervening in distressed asset markets. All of these policies are effective in aiding the recovery from a crisis. Infusing equity capital into intermediaries is particularly effective because it attacks the equity capital constraint that is at the root of the crisis in our model.

Slides

FINANCIAL SECTOR LEVERAGE DATA: Our model predicts that leverage of the financial sector rises during crises, rather than falls as would be consistent with a deleveraging model. This short note explains why this happens in our model and presents empirical evidence that proves the data is consistent with the model. It also explains the empirical deleveraging pattern that other models have focused on.

The Aggregate Demand for Treasury Debt (joint with A. Vissing-Jorgensen)

We show that the US Debt/GDP ratio is negatively correlated with the yield spread between corporate bonds and Treasury bonds, controlling for default risk on corporate bonds. The corporate bond spread reflects a convenience yield that investors attribute to Treasury debt. Changes in Treasury supply trace out convenience demand. At the current supply of Treasuries, the convenience yield is around 100 bps. The superior trading liquidity of Treasuries accounts for 50 bps while the surety of Treasuries confers an additional 50 bps of convenience yield. Regulatory demanders of Treasuries, including foreign central banks, are central drivers of the convenience yield.

Slides

Liquidity and Interest Rates (Slides from talk at the AEA meetings)

Light Reading:

On Fundamental Value and the Limits to Arbitrage(11/08)

Liquidity Benefits of the Bailout Proposal(9/08)

Short commentary on current credit crisis (8/07) , Link to Economist Article about the paper

Older Papers:

Fiscal Policy and Financial Depth (joint with R. Caballero)

Liquidity Illusion: On the Risks of Sterilization(joint with R. Caballero)

International Liquidity Management: Sterilization Policy in Illiquid Financial Markets(joint with R. Caballero)

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Last Revised: October 15, 2011