Authors: Thomas Eisenbach, Todd Keister, James McAndrews, and Tanju Yorulmazer
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Authors: Thomas Eisenbach, Todd Keister, James McAndrews, and Tanju Yorulmazer
With the recent financial crisis, many financial intermediaries experienced strains created by declining asset values and a loss of funding sources. In reviewing these stress events, one notices that some arrangements appear to have been more stable—that is, better able to withstand shocks to their asset values and/or funding sources—than others. Because the precise determinants of this stability are not well understood, gaining a better grasp of them is a critical task for market participants and policymakers as they try to design more resilient arrangements and improve financial regulation. This article uses a simple analytical framework to illustrate the determinants of a financial intermediary’s ability to survive stress events. An intermediary in the framework faces two types of risk: the value of its assets may decline and/or its short-term creditors may decide not to roll over their debt. The authors measure stability by looking at the combinations of shocks the intermediary can experience while remaining solvent. They study how stability depends on the intermediary’s balance-sheet characteristics, such as its leverage, the maturity structure of its debt, and the liquidity and riskiness of its asset portfolio. They also show how the framework can be applied to examine current policy issues, including liquidity requirements, discount window policy, and different approaches to reforming money market mutual funds.