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Liquidity and Leverage

Tobias Adrian

International Monetary Fund

Hyun Song Shin

Bank for International Settlements

January 1, 2009

FRB of New York Staff Report No. 328

In a financial system in which balance sheets are continuously marked to market, asset price changes appear immediately as changes in net worth, eliciting responses from financial intermediaries who adjust the size of their balance sheets. We document evidence that marked-to-market leverage is strongly procyclical. Such behavior has aggregate consequences. Changes in dealer repos—the primary margin of adjustment for the aggregate balance sheets of intermediaries—forecast changes in financial market risk as measured by the innovations in the Chicago Board Options Exchange Volatility Index (VIX). Aggregate liquidity can be seen as the rate of change of the aggregate balance sheet of the financial intermediaries.

Number of Pages in PDF File: 39

Keywords: financial market liquidity, financial cycles, financial intermediary leverage

JEL Classification: E32, E44, G10, G20

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Date posted: June 4, 2008 ; Last revised: November 11, 2010

Suggested Citation

Adrian, Tobias and Shin, Hyun Song, Liquidity and Leverage (January 1, 2009). FRB of New York Staff Report No. 328. Available at SSRN: https://ssrn.com/abstract=1139857 or http://dx.doi.org/10.2139/ssrn.1139857

Contact Information

Tobias Adrian (Contact Author)
International Monetary Fund ( email )
700 19th Street, N.W.
Washington, DC 20431
United States
HOME PAGE: http://www.tobiasadrian.com
Hyun Song Shin
Bank for International Settlements ( email )
Centralbahnplatz 2
Basel, Basel-Stadt 4002
HOME PAGE: http://www.bis.org/author/hyun_song_shin.htm
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