Working Paper: NBER ID: w27471
Authors: Ana Babus; Maryam Farboodi
Abstract: We explore a model in which banks strategically hold interconnected and opaque portfolios, despite increasing the likelihood they are subject to financial crises. In our framework, banks choose their degree of exposure to other banks to influence how investors can use their information. In equilibrium banks choose portfolios which are neither fully opaque, nor fully transparent. However, their portfolios are excessively interconnected to obfuscate investor information. Banks can create a degree of opacity that decreases welfare, and makes bank crises more likely. Our model is suggestive about the implications of asset securitization, as well as government bailouts.
Keywords: No keywords provided
JEL Codes: D43; D82; G14; G21
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| banks' portfolio opacity (G21) | financial instability (F65) |
| interconnectedness (F60) | likelihood of crises (H12) |
| banks' portfolio choices (G11) | portfolio opacity (G19) |
| portfolio opacity (G19) | investors' ability to assess counterparty risks (G32) |
| investor uncertainty (D89) | early liquidation (G33) |
| portfolio opacity (G19) | frequency of financial crises (G01) |
| increased transparency (G38) | likelihood of crises (H12) |