Category Finance
Trading volume, liquidity crises, Carl Menger, and “off-the-run” bonds
An asset which becomes less liquid (the costs of trading it increase) will be traded less frequently. If an asset is traded less frequently, it will become even less liquid….. An asset which becomes more liquid (the costs of trading it decrease) will be traded more frequently. If an asset is traded more frequently, it […]
The Bank of Canada’s Financial System Review
The Bank of Canada published its December 2008 Financial System Review yesterday. I spent a few hours reading it through (something I had never bothered to do in the past). Some observations:
Destroying Lemons (or at least locking them up in a “Bad Bank”)
In a previous post I built a toy model to explain how some assets going bad could reduce market liquidity and reduce the total value of assets by a multiple of the original loss in value. My model was of course based on Akerlof's famous "Market for Lemons", but I introduced a demand for liquidity […]
Why did Liquidity Fall? How does Illiquidity affect asset values?
In a previous post, I argued that assets became less liquid in the last couple of months, and that the fall in liquidity might have been a major cause of the fall in asset values. So, why did liquidity fall? There's a literature based on a model of informed traders, uninformed traders, and "noise" traders […]
Liquidity, Time Preference, Brad DeLong, and the missing $20 trillion
Brad DeLong has an excellent short essay on the financial crisis. Read it. I disagree with one part of it: Liquidity Discount: The cash flowing to capital arrives in the present rather than the future, and people prefer — to varying degrees at different times — the bird in the hand to the one in the […]
The Bank of Canada’s Assets
When I was writing my last post, on commercial and central bank solvency , I wasn't sure whether it was worth posting, because maybe everybody already knew this stuff. But I decided to post it anyway. Now I'm glad I did. I got some good comments from JKH, which opened up a new avenue to […]
Two perspectives on commercial and central bank solvency
I start a bank. I have zero capital. I borrow $100 and lend $100. What is the net worth of my bank? Looking at the balance sheet, the answer is simple and obvious: assets $100, liabilities $100, net worth = assets minus liabilities = $0. But looking at the income statement we may get a […]
Are we seeing the end of a 15-year stock price bubble?
I spent much of the latter part of the 1990's looking at this graph: During this period, Pascal St-Amour and I were trying to explain just why stock prices were so volatile; the fundamentals driving the standard C-CAPM were far too smooth to generate swings like this. Our story was based on a two-state model […]
How do we stop it from happening again?
Nick Rowe passes this along: We failed. By “we” I mean economists. Sure, there’s a lot of blame to go round; a lot of people made bad decisions. But we didn’t know how to design a financial system which is robust enough to cope with people making bad decisions. If some people paid too much […]
Life in the time of six sigma
Standard deviation of daily per cent changes in the CAD-USD exchange rate since the CAD was allowed to float in June, 1970: 0.33. Number of days in which daily per cent changes exceeded six standard deviations since June 1970: 6. Number of days in which daily per cent changes exceeded six standard deviations since September […]
Worthwhile Canadian Initiative 
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