On Reaching for Yield and the Coexistence of Bubbles and Negative Bubbles

35 Pages Posted: 16 Jun 2015 Last revised: 4 Sep 2018

Viral V. Acharya

New York University - Leonard N. Stern School of Business; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER); New York University (NYU) - Department of Finance

Hassan Naqvi

SKK Graduate School of Business

Date Written: August 25, 2018

Abstract

We develop a model of financial intermediation wherein bank managers "reach for yield" - by overinvesting in risky assets and underinvesting in safer assets - provided they do not face much cost from liquidity shortfalls. The managers follow a pecking order in which their first preference is to invest in risky assets; their second preference is to hoard liquid assets; and their last preference is to invest in safer assets. This behavior is conducive to the formation of bubbles and "negative" bubbles in the market for risky and safer assets, respectively. Monetary loosening, by reducing the cost of liquidity shortfalls, induces further reach for yield and amplifies the bubbles.

The appendices for this paper are available at the following URL: http://ssrn.com/abstract=2619004.

Keywords: Bubbles, monetary policy, moral hazard, negative bubbles, reaching for yield, risk-taking channel

JEL Classification: D82, E32, E52, G21, G28

Suggested Citation

Acharya, Viral V. and Naqvi, Hassan, On Reaching for Yield and the Coexistence of Bubbles and Negative Bubbles (August 25, 2018). Journal of Financial Intermediation, Forthcoming. Available at SSRN: https://ssrn.com/abstract=2618973 or http://dx.doi.org/10.2139/ssrn.2618973

Viral V. Acharya

New York University - Leonard N. Stern School of Business ( email )

44 West 4th Street
New York, NY NY 10012
United States

HOME PAGE: http://pages.stern.nyu.edu/~sternfin/vacharya/public_html/~vacharya.htm

Centre for Economic Policy Research (CEPR)

London
United Kingdom

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

New York University (NYU) - Department of Finance

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States

Hassan Naqvi (Contact Author)

SKK Graduate School of Business ( email )

206 International Hall
Seoul, 110-745
Korea, Republic of (South Korea)

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