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Credit Default Swaps and the Stability of the Banking Sector

Heinrich-Heine-University Duesseldorf Economics, Finance, and Taxation Discussion Paper No. 2/2008

38 Pages Posted: 21 Nov 2008  

Ulrike Neyer

Heinrich-Heine-University Duesseldorf

Frank Heyde

Martin-Luther Universität Halle-Wittenberg

Multiple version iconThere are 2 versions of this paper

Date Written: September 1, 2008

Abstract

This paper considers credit default swaps (CDS) used for the transfer of credit risk within the banking sector. The banks' motive to conclude these CDS contracts is to improve the diversification of their credit risks. It is shown that these CDS reduce the stability of the banking sector in a recession. In a boom or in times characterized by a moderate economic up - or downturn, they can reduce this stability. The crucial points for these negative impacts to occur are firstly, that banks are induced to increase their investment into an illiquid, risky credit portfolio and secondly, that these CDS create a possible channel of contagion.

Keywords: Credit Risk Transfer, Financial Stability, Contagion, Banking

JEL Classification: G21

Suggested Citation

Neyer, Ulrike and Heyde, Frank, Credit Default Swaps and the Stability of the Banking Sector (September 1, 2008). Heinrich-Heine-University Duesseldorf Economics, Finance, and Taxation Discussion Paper No. 2/2008 . Available at SSRN: https://ssrn.com/abstract=1303615 or http://dx.doi.org/10.2139/ssrn.1303615

Ulrike Neyer (Contact Author)

Heinrich-Heine-University Duesseldorf ( email )

Department of Economics
Universitaetsstrasse 1
Duesseldorf, 40225
Germany

HOME PAGE: http://www.economics-neyer.uni-duesseldorf.de

Frank Heyde

Martin-Luther Universität Halle-Wittenberg ( email )

Sachsen-Anhalt

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