Abstract

http://ssrn.com/abstract=1529764
 
 

Citations (16)



 
 

Footnotes (28)



 


 



The 'Other' Imbalance and the Financial Crisis


Ricardo J. Caballero


Massachusetts Institute of Technology (MIT) - Department of Economics; National Bureau of Economic Research (NBER)

December 29, 2009

MIT Department of Economics Working Paper No. 09-32

Abstract:     
One of the main economic villains before the crisis was the presence of large “global imbalances.” The concern was that the U.S. would experience a sudden stop of capital flows, which would unavoidably drag the world economy into a deep recession. However, when the crisis finally did come, the mechanism did not at all resemble the feared sudden stop. Quite the opposite, during the crisis net capital inflows to the U.S. were a stabilizing rather than a destabilizing source. I argue instead that the root imbalance was of a different kind: The entire world had an insatiable demand for safe debt instruments that put an enormous pressure on the U.S. financial system and its incentives (and this was facilitated by regulatory mistakes). The crisis itself was the result of the negative feedback loop between the initial tremors in the financial industry created to bridge the safe-assets gap and the panic associated with the chaotic unraveling of this complex industry. Essentially, the financial sector was able to create “safe” assets from the securitization of lower quality ones, but at the cost of exposing the economy to a systemic panic. This structural problem can be alleviated if governments around the world explicitly absorb a larger share of the systemic risk. The options for doing this range from surplus countries rebalancing their portfolios toward riskier assets, to private-public solutions where asset-producer countries preserve the good parts of the securitization industry while removing the systemic risk from the banks’ balance sheets. Such public-private solutions could be designed with fee structures that could incorporate all kind of too-big- or too-interconnected-to-fail considerations.

Number of Pages in PDF File: 43

Keywords: Global imbalances, financial crisis, safe assets shortage, securitization, systemic fragility, panic, complexity, Knightian uncertainty, contingent insurance, TIC, contingent CDS

JEL Classification: E32, E44, E58, F30, G01, G20

working papers series





Download This Paper

Date posted: December 31, 2009  

Suggested Citation

Caballero, Ricardo J., The 'Other' Imbalance and the Financial Crisis (December 29, 2009). MIT Department of Economics Working Paper No. 09-32. Available at SSRN: http://ssrn.com/abstract=1529764 or http://dx.doi.org/10.2139/ssrn.1529764

Contact Information

Ricardo J. Caballero (Contact Author)
Massachusetts Institute of Technology (MIT) - Department of Economics ( email )
50 Memorial Drive
E52-252A
Cambridge, MA 02142
United States
617-253-0489 (Phone)
617-253-1330 (Fax)
National Bureau of Economic Research (NBER)
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
Feedback to SSRN


Paper statistics
Abstract Views: 4,735
Downloads: 1,162
Download Rank: 9,217
Citations:  16
Footnotes:  28

© 2014 Social Science Electronic Publishing, Inc. All Rights Reserved.  FAQ   Terms of Use   Privacy Policy   Copyright   Contact Us
This page was processed by apollo6 in 0.297 seconds