Working Paper: NBER ID: w17321
Authors: Marcin Kacperczyk; Philipp Schnabl
Abstract: A firm's termination generates bankruptcy costs. This may create incentives for a firm's owner to bail out a firm in bankruptcy and to curb the firm's risk taking outside bankruptcy. We analyze the role of such implicit guarantees in the context of financial institutions that sponsor money market mutual funds. Our identification strategy exploits a large, exogenous expansion in risk-taking opportunities of money market funds during the period of August 2007 to August 2008. We find that a fund's response to the expansion depends on its sponsor's ability to provide implicit guarantees: Funds sponsored by financial institutions with higher equity take on less risk than those sponsored by financial institutions with lower equity. Moreover, fund sponsors with higher equity are more likely to provide financial support to their funds during a market-wide run in September 2008. The difference in risk taking disappears once implicit guarantees by fund sponsors are replaced with an explicit government guarantee. Overall, our findings suggest that implicit guarantees may reduce, rather than increase, risk taking.
Keywords: Implicit Guarantees; Risk Taking; Money Market Funds
JEL Codes: E44; E5; G01; G11; G14; G2; G21; G32; G33
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Implicit guarantees (D86) | Reduced risk-taking behavior (D91) |
| Exogenous increase in risk-taking opportunities (G40) | Increased risk-taking behavior in funds (G40) |
| Higher equity levels of sponsors (Z23) | Less risk-taking behavior in funds (G11) |
| Higher equity levels of sponsors (Z23) | Increased likelihood of financial support during market-wide run (E44) |