Financial Firm Bankruptcy and Systemic Risk

45 Pages Posted: 12 Dec 2008 Last revised: 31 Aug 2009

Jean Helwege

UC Riverside

Multiple version iconThere are 2 versions of this paper

Date Written: August 28, 2009

Abstract

Financial firm distress often leads to regulatory intervention, such as “too big to fail” (TBTF) policies. Two oft-cited channels to justify TBTF are domino effects (counterparty risk) and the effects of fire sales. We analyze the policy responses for avoiding systemic risk while considering the role of these two factors. Prior bankruptcies suggest that cascades caused by counterparty risk do not occur, as firms diversify their exposures. Instead, crises tend to be symptomatic of common factors in financial firms’ portfolios, which lead to widespread instances of declining asset values and which are often misinterpreted as resulting from fire sales.

Keywords: Financial institutions, systemic risk, Too big to fail, fire sales, counterparty risk

JEL Classification: G28, G33, E44, E58, E61

Suggested Citation

Helwege, Jean, Financial Firm Bankruptcy and Systemic Risk (August 28, 2009). Available at SSRN: https://ssrn.com/abstract=1315316 or http://dx.doi.org/10.2139/ssrn.1315316

Jean Helwege (Contact Author)

UC Riverside ( email )

900 University Ave
Riverside, CA 92521
United States

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