Abstract

http://ssrn.com/abstract=2313026
 
 

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Financial Entanglement: A Theory of Incomplete Integration, Leverage, Crashes, and Contagion


Nicolae Garleanu


University of California, Berkeley - Haas School of Business; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)

Stavros Panageas


University of Chicago - Booth School of Business; National Bureau of Economic Research (NBER)

Jianfeng Yu


University of Minnesota

August 20, 2013


Abstract:     
We propose a unified model of limited market integration, asset-price determination, leveraging, and contagion. Investors and firms are located on a circle, and access to markets involves participation costs that increase with distance. Despite the ex-ante symmetry of investors, their strategies may (endogenously) exhibit diversity, with some investors in each location following high-leverage, high-participation, and high-cost strategies and some unleveraged, low-participation, and low-cost strategies. The capital allocated to high-leverage strategies may be vulnerable even to small changes in market-access costs, which can lead to discontinuous price drops, de-leveraging, and portfolio-flow reversals. Moreover, the market is subject to contagion, in that an adverse shock to investors at a subset of locations affects prices everywhere.

Number of Pages in PDF File: 61

Keywords: Financial frictions, Market fragmentation, Leverage, Crashes, Contagion

JEL Classification: G01, G12

working papers series


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Date posted: August 20, 2013  

Suggested Citation

Garleanu, Nicolae and Panageas, Stavros and Yu, Jianfeng, Financial Entanglement: A Theory of Incomplete Integration, Leverage, Crashes, and Contagion (August 20, 2013). Available at SSRN: http://ssrn.com/abstract=2313026 or http://dx.doi.org/10.2139/ssrn.2313026

Contact Information

Nicolae Bogdan Garleanu
University of California, Berkeley - Haas School of Business ( email )
545 Student Services Building
Berkeley, CA 94720
United States
HOME PAGE: http://faculty.haas.berkeley.edu/garleanu
National Bureau of Economic Research (NBER) ( email )
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
Centre for Economic Policy Research (CEPR) ( email )
77 Bastwick Street
London, EC1V 3PZ
United Kingdom
Stavros Panageas (Contact Author)
University of Chicago - Booth School of Business ( email )
5807 S. Woodlawn Avenue
Chicago, IL 60637
United States
National Bureau of Economic Research (NBER) ( email )
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
Jianfeng Yu
University of Minnesota ( email )
321 19th Avenue
Suite 3-122
Minneapolis, MN 55455
United States
HOME PAGE: http://users.cla.umn.edu/~jianfeng/
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