Premium
Leverage, Moral Hazard, and Liquidity
Author(s) -
ACHARYA VIRAL V.,
VISWANATHAN S.
Publication year - 2011
Publication title -
the journal of finance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 18.151
H-Index - 299
eISSN - 1540-6261
pISSN - 0022-1082
DOI - 10.1111/j.1540-6261.2010.01627.x
Subject(s) - leverage (statistics) , market liquidity , debt , moral hazard , monetary economics , business , asset (computer security) , financial system , liquidity crisis , finance , economics , incentive , market economy , computer security , machine learning , computer science
Financial firms raise short‐term debt to finance asset purchases; this induces risk shifting when economic conditions worsen and limits their ability to roll over debt. Constrained firms de‐lever by selling assets to lower‐leverage firms. In turn, asset–market liquidity depends on the system‐wide distribution of leverage, which is itself endogenous to future economic prospects. Good economic prospects yield cheaper short‐term debt, inducing entry of higher‐leverage firms. Consequently, adverse asset shocks in good times lead to greater de‐leveraging and sudden drying up of market and funding liquidity.