A Theory of Endogenous Asset Fire Sales, Bank Runs, and Contagion

52 Pages Posted: 20 Apr 2016

See all articles by Zhao Li

Zhao Li

Universitat Pompeu Fabra - Department of Economics and Business

Kebin Ma

University of Warwick - Finance Group

Multiple version iconThere are 3 versions of this paper

Date Written: April 18, 2016

Abstract

In a global-games framework, we endogenize asset fire sales, bank runs, and contagion by emphasizing a lack of information: investors can be uncertain whether banks selling assets to fend off runs are insolvent or simply illiquid. However, it is this uncertainty that leads to asset price collapses and runs in the first place. We show that a balanced-budget asset purchase program promotes financial stability by breaking down this vicious cycle. By contrast, increasing capital can exacerbate fire sales in the presence of adverse selection, because runs on well-capitalized banks signal high risks. We also derive implications regarding regulatory disclosure policies.

Keywords: Bank run, Global games, Asymmetric information, Capital, Asset purchase program

JEL Classification: G01, G11, G21

Suggested Citation

Li, Zhao and Ma, Kebin, A Theory of Endogenous Asset Fire Sales, Bank Runs, and Contagion (April 18, 2016). WBS Finance Group Research Paper No. 235, Available at SSRN: https://ssrn.com/abstract=2766386 or http://dx.doi.org/10.2139/ssrn.2766386

Zhao Li

Universitat Pompeu Fabra - Department of Economics and Business ( email )

​C. Ramon Trias Fargas 25-27, 08005
Barcelona
Spain

HOME PAGE: http://zhaoli.org

Kebin Ma (Contact Author)

University of Warwick - Finance Group ( email )

Gibbet Hill Rd
Coventry, CV4 7AL
Great Britain

HOME PAGE: http://www.kebinma.com

Do you have negative results from your research you’d like to share?

Paper statistics

Downloads
157
Abstract Views
1,331
Rank
225,071
PlumX Metrics