Abstract: This paper studies the efficiency of financial intermediation through
securitization in a model with heterogenous investment projects and asymmetric
information about the quality of securitized assets. I show that,
in general, when retaining part of the risk, the issuer of securitized assets may credibly
signal its quality. However, in boom stages of the business cycle this practice is inefficient,
information on asset quality remains private, and lower quality assets
accumulate on balance sheets. This prolongs and deepens a subsequent downturn with an intensity
proportional to the length of the preceding boom. I present empirical evidence from
securitization deal-level data consistent with this result. In recessions,
the model also produces amplification of adverse selection problems
on re-sale markets for securitized assets. These are especially severe
after a prolonged boom period and when securitized assets of high-quality
are no longer traded. Finally, this general equilibrium model suggests that
improperly designed regulation requiring higher explicit risk-retention
may become counter-productive, i.e., may adversely
affect both quantity and quality of investment in the economy.
Fragility of Resale Markets for Securitized Assets and Policy of Asset Purchases
Abstract: Markets for securitized assets were characterized by high liquidity prior to the recent financial crisis and by a sudden market dry-up at the onset of the crisis. A general
equilibrium model with heterogeneous investment opportunities and information frictions predicts that, in boom periods or mild recessions, the degree of adverse selection in resale markets for securitized
assets is limited because of the reputation-based guarantees by asset originators. This supports investment and output. However, in a deep recession, characterized by high dispersion of asset qualities,
there is a sudden surge in adverse selection due to an economy-wide default on reputation-based guarantees, which persistently depresses the output in the economy. Government policy of asset purchases
limits the negative effects of adverse selection on the real economy, but may create a negative moral hazard problem.
In or Out: Do Bail-In Bonds Really Decrease Bailouts? (with Kinda Hachem)
Abstract: Bail-in bonds have gained a lot of attention among bank regulators. These bonds supposedly raise the hurdle for a government
bailout by converting into loss-absorbing capital once the issuing bank runs into trouble. We argue that banks can short-circuit bail-in
requirements by offering investors off-balance-sheet insurance against conversion. The bond itself appears as a bail-in bond on the issuer's
balance sheet while the insurance is booked off balance sheet until the bond converts. The government can deter insurance provision by imposing
penalties when insurance is discovered, but these penalties may not be credible. We find conditions for an equilibrium in which insurance against
conversion is provided by banks and bailed out by the government rather than penalized upon discovery. We also present new empirical evidence in support of our model.
Abstract: We propose a model which tries to explain in a unified framework both time and cross-section variation
in the conditional asset pricing moments on the stock market. We combine two strands of literature on asset pricing: external habit
formation and literature on asset pricing where investors' large share of consumption consists of service flows from stock of durable
goods. We develop a theoretical model as a generalization of Campbell and Cochrane (1999) external habit formation model, where we
introduce durable goods and estimate its parameters using the GMM methodology on the set of 6 Fama-French portfolios. The estimated
weight of durables in the utility function is significantly different from zero.
Abstract: This paper presents a small scale DSGE model where banking sector raises deposits, participates in the
interbank market and issues and trades securitized products. The model contains externality related to bank failures the costs of which
are not fully internalized by banks and asymmetric information related to securitization process which give rise to adverse selection
problems and which are most severe in a recession. But similarly as in Kuncl (2014) the inefficiencies build-up mainly in the boom stage
of the business cycle. The presence of externality justifies the introduction of macro-prudential regulation. I study the effect
of various macro-prudential tools on the welfare.
The views expressed on this website are my own. No responsibility for them should be attributed to the Bank of Canada.