Template-Type: ReDIF-Paper 1.0
Author-Name: Sushant Acharya
Author-Name-First: Sushant
Author-Name-Last: Acharya
Author-Name: Keshav Dogra
Author-Name-First: Keshav
Author-Name-Last: Dogra
Author-Name: Sanjay R. Singh
Author-Name-First: Sanjay R.
Author-Name-Last: Singh
Author-Workplace-Name: Department of Economics, University of California Davis
Title: The financial origins of non-fundamental risk
Abstract: We formalize the idea that the financial sector can be a source of non-fundamental risk. Households’ desire to hedge against price volatility can generate price volatility in equilibrium, even absent fundamental risk. Fearing that asset prices may fall, risk-averse households demand safe assets from leveraged intermediaries, whose issuance of safe assets exposes the economy to self-fulfilling fire sales. Policy can eliminate non-fundamental risk by (i) increasing the supply of publicly backed safe assets, through issuing government debt or bailing out intermediaries, or (ii) reducing the demand for safe assets, through social insurance or by acting as a market maker of last resort.
Length: 53
File-URL: https://repec.dss.ucdavis.edu/files/D6sKesbiJMCNeL53saQwHhpT/ADS_Nov2021.pdf
File-Format: application/pdf
Number: 345
Classification-JEL: D52, D84, E62, G10, G12
KeyWords: safe assets, self-fulfilling asset market crashes, liquidity, fire sales
Creation-Date: 20211219
Handle: RePEc:cda:wpaper:345