Liquidity and Financial Cycles

38 Pages Posted: 22 Jul 2008

See all articles by Tobias Adrian

Tobias Adrian

International Monetary Fund

Hyun Song Shin

Bank for International Settlements (BIS)

Date Written: July 2008

Abstract

In a financial system where balance sheets are continuously marked to market, asset price changes show up immediately in changes in net worth, and elicit responses from financial intermediaries, who adjust the size of their balance sheets. We document evidence that marked to market leverage is strongly procyclical. Such behaviour has aggregate consequences. Changes in aggregate balance sheets for intermediaries forecast changes in risk appetite in financial markets, as measured by the innovations in the VIX index. Aggregate liquidity can be seen as the rate of change of the aggregate balance sheet of the financial intermediaries.

Keywords: Financial cycle, financial intermediation, leverage, liquidity

JEL Classification: E50, G21, G24

Suggested Citation

Adrian, Tobias and Shin, Hyun Song, Liquidity and Financial Cycles (July 2008). BIS Working Paper No. 256. Available at SSRN: https://ssrn.com/abstract=1165583 or http://dx.doi.org/10.2139/ssrn.1165583

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 (BIS) ( email )

Centralbahnplatz 2
Basel, Basel-Stadt 4002
Switzerland

HOME PAGE: http://www.bis.org/author/hyun_song_shin.htm

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