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Monitoring Leverage

John Geanakoplos

Yale University - Cowles Foundation

Lasse Heje Pedersen

AQR Capital Management, LLC; Copenhagen Business School - Department of Finance; New York University (NYU); Centre for Economic Policy Research (CEPR)

November 1, 2011

Cowles Foundation Discussion Paper No. 1838

We discuss how leverage can be monitored for institutions, individuals, and assets. While traditionally the interest rate has been regarded as the important feature of a loan, we argue that leverage is sometimes even more important. Monitoring leverage provides information about how risk builds up during booms as leverage rises and how crises start when leverage on new loans sharply declines. Leverage data is also a crucial input for crisis management and lending facilities. Leverage at the asset level can be monitored by down payments or margin requirement or and haircuts, giving a model-free measure that can be observed directly, in contrast to other measures of systemic risk that require complex estimation. Asset leverage is a fundamental measure of systemic risk and so is important in itself, but it is also the building block out of which measures of institutional leverage and household leverage can be most accurately and informatively constructed.

Number of Pages in PDF File: 19

Keywords: Leverage, Loan to value, Margins, Haircuts, Monitor, Regulate, Leverage on new loans, Asset leverage, Investor leverage

JEL Classification: D52, D53, E44, G01, G10, G12

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Date posted: December 2, 2011  

Suggested Citation

Geanakoplos, John and Pedersen, Lasse Heje, Monitoring Leverage (November 1, 2011). Cowles Foundation Discussion Paper No. 1838. Available at SSRN: http://ssrn.com/abstract=1967173 or http://dx.doi.org/10.2139/ssrn.1967173

Contact Information

John D Geanakoplos (Contact Author)
Yale University - Cowles Foundation ( email )
Box 208281
New Haven, CT 06520-8281
United States
203-432-3397 (Phone)
203-432-6167 (Fax)
HOME PAGE: http://cowles.econ.yale.edu/P/au/d_gean.htm
Lasse Heje Pedersen
AQR Capital Management, LLC ( email )
Greenwich, CT
United States
Copenhagen Business School - Department of Finance ( email )
Solbjerg Plads 3
Frederiksberg, DK-2000
New York University (NYU) ( email )
Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States
Centre for Economic Policy Research (CEPR) ( email )
77 Bastwick Street
London, EC1V 3PZ
United Kingdom
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