Information Acquisition and Liquidity Traps in Over-the-Counter Markets

Zou, Junyuan

doi:10.2139/ssrn.3314735

Cited by 5 publications

(3 citation statements)

References 48 publications

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“…Hellwig and Zhang (2013) andZhou (2019) show that endogenous information acquisition by buyers is yet another force generating equilibrium (steady state) multiplicity. Rather than the intertemporal complementarity at play here,Malherbe (2014) highlights an intratemporal complementarity in investors' portfolio choice between cash and an opaque asset that also results in multiplicity.6 This model differs from theirs in other ways: mine is set in discrete time, has no matching frictions, and allows the low-quality asset to have value.…”

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confidence: 99%

Liquidity Fluctuations in Over‐the‐Counter Markets

Maurin¹

2022

The Journal of Finance

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This paper proposes a theory of excess price fluctuations in over-the-counter secondary markets. When heterogeneous assets trade under asymmetric information, a quality effect emerges: high liquidity lowers the quality of the pool of sellers and decreases future liquidity. Cyclical equilibria can arise even without fundamental shocks. In a cycle, investors speculate by bidding up the price of low-quality assets, anticipating a high resale price at the peak. When this resale effect is strong, cycles disappear and multiple steady states coexist with different levels of liquidity. The model rationalizes empirical patterns for corporate bonds and housing in particular.ASSET PRICES OFTEN APPEAR DISCONNECTED from fundamentals. This weak relationship shows as excess price fluctuations, documented notably for corporate bonds and housing by Bao and Pan (2013) and Glaeser et al. (2014). Price deviations from fundamentals are sometimes extreme during speculative episodes when prices rapidly increase before crashing (see Cutler, Poterba, and Summers 1991). In some asset classes, such as housing, the repeated nature of these episodes is puzzling. Why can price and trading volume fluctuate so much in the absence of changes to fundamentals?This paper proposes a theory of endogenous liquidity fluctuations that can rationalize these phenomena. Motivated by the markets for corporate bonds

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confidence: 99%

Liquidity Fluctuations in Over‐the‐Counter Markets

Maurin¹

2022

The Journal of Finance

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“…3 Finally, Our paper is also related to information acquisition and adverse selection in secondary markets. Zou (2019) analyzes a dynamic model of trade in which an agent's incentive to collect information is higher if agents in the future are expected to collect information. In Asriyan, Fuchs and Green (2017), if future market liquidity and hence prices are expected to be high (low), then prices today are high (low) and the adverse selection problem will be less (more) severe.…”

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confidence: 99%

A Dynamic Theory of Lending Standards

Fishman

Parker

Straub

2020

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We develop a dynamic model of credit markets in which both lending standards and the quality composition of the borrower pool are endogenous. Borrowers can be of high or low quality, and each lender privately decides on its lending standard, modeled as a technology that screens out low types with cost proportional to the probability of detection. Lending standards are dynamic strategic complements: tighter screening worsens the future pool of borrowers, increasing the incentive to screen in the future. The equilibrium is unique, but may exhibit two stable steady states, one with loose lending standards and one with tight lending standards. Thus, even temporary adverse shocks can have amplified and long-lasting effects on the health of credit markets. According to the model's normative predictions, lending standards are inefficiently tight during such episodes, since banks do not internalize the effect of tighter standards on the quality of the borrower pool. We discuss several policies such as government support for lending that can help ameliorate this inefficiency, along with several pitfalls to avoid.

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“…They show how a small shock to the confidence in safe debt can have large consequences for financial stability at the end of a credit boom. Zou (2019) presents a model in which liquid markets are prone to a self-fulfilling market freeze when buyers suddenly start producing information. This triggers a transition from a liquid to an illiquid state from which there is no equilibrium path back without exogenous intervention.…”

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confidence: 99%

Quantitative Easing and the Safe Asset Illusion

et al. 2021

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The massive recourse to quantitative easing (QE) calls for a better understanding of its effects on safe assets. Based on a simple balance sheet framework, we show how QE impacts the total amount, cross-sectional distribution, and composition of safe assets in the economy. Analyzing the ECB's Public Sector Purchase Programme (PSPP), we find that the amount of universally accessible safe assets decreases and there is a transfer of safe assets from the non-bank to the banking sector. We call this phenomenon the safe asset illusion. The sectoral shift in the holding structure of safe assets has important implications for financial stability and the cost of secured liquidity.

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Information Acquisition and Liquidity Traps in Over-the-Counter Markets

Cited by 5 publications

References 48 publications

Liquidity Fluctuations in Over‐the‐Counter Markets

Liquidity Fluctuations in Over‐the‐Counter Markets

A Dynamic Theory of Lending Standards

Quantitative Easing and the Safe Asset Illusion

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