Credit market freezes

Efraim Benmelech*, Nittai K. Bergman

*Corresponding author for this work

Research output: Contribution to journalArticle

Abstract

Credit market freezes in which debt issuance declines dramatically and market liquidity evaporates are typically observed during financial crises. In the financial crisis of 2008–2009, the structured credit market froze, issuance of corporate bonds declined, and secondary credit markets became highly illiquid. In this paper, we analyze liquidity in bond markets during financial crises and compare two main theories of liquidity in markets: (1) asymmetric information and adverse selection, and (2) heterogenous beliefs. Analyzing the 1873 financial crisis as well as the 2008–2009 crisis, we find that when bond value deteriorates, bond illiquidity increases, consistent with an adverse-selection model of the information sensitivity of debt contracts. While we show that the adverse-selection model of debt liquidity explains a large portion of the rise in illiquidity, we find little support for the hypothesis that opinion dispersion explains illiquidity in financial crises.

Original languageEnglish (US)
Pages (from-to)493-526
Number of pages34
JournalNBER Macroeconomics Annual
Volume32
Issue number1
DOIs
StatePublished - Jan 1 2018

Fingerprint

Credit markets
Financial crisis
Adverse selection
Liquidity
Illiquidity
Selection model
Debt
Market liquidity
Debt contracts
Corporate bonds
Asymmetric information
Bond market

ASJC Scopus subject areas

  • Economics and Econometrics

Cite this

Benmelech, Efraim ; Bergman, Nittai K. / Credit market freezes. In: NBER Macroeconomics Annual. 2018 ; Vol. 32, No. 1. pp. 493-526.
@article{6c63ad62f7244a438c1b5c982069cdff,
title = "Credit market freezes",
abstract = "Credit market freezes in which debt issuance declines dramatically and market liquidity evaporates are typically observed during financial crises. In the financial crisis of 2008–2009, the structured credit market froze, issuance of corporate bonds declined, and secondary credit markets became highly illiquid. In this paper, we analyze liquidity in bond markets during financial crises and compare two main theories of liquidity in markets: (1) asymmetric information and adverse selection, and (2) heterogenous beliefs. Analyzing the 1873 financial crisis as well as the 2008–2009 crisis, we find that when bond value deteriorates, bond illiquidity increases, consistent with an adverse-selection model of the information sensitivity of debt contracts. While we show that the adverse-selection model of debt liquidity explains a large portion of the rise in illiquidity, we find little support for the hypothesis that opinion dispersion explains illiquidity in financial crises.",
author = "Efraim Benmelech and Bergman, {Nittai K.}",
year = "2018",
month = "1",
day = "1",
doi = "10.1086/696065",
language = "English (US)",
volume = "32",
pages = "493--526",
journal = "NBER Macroeconomics Annual",
issn = "0889-3365",
publisher = "University of Chicago Press",
number = "1",

}

Credit market freezes. / Benmelech, Efraim; Bergman, Nittai K.

In: NBER Macroeconomics Annual, Vol. 32, No. 1, 01.01.2018, p. 493-526.

Research output: Contribution to journalArticle

TY - JOUR

T1 - Credit market freezes

AU - Benmelech, Efraim

AU - Bergman, Nittai K.

PY - 2018/1/1

Y1 - 2018/1/1

N2 - Credit market freezes in which debt issuance declines dramatically and market liquidity evaporates are typically observed during financial crises. In the financial crisis of 2008–2009, the structured credit market froze, issuance of corporate bonds declined, and secondary credit markets became highly illiquid. In this paper, we analyze liquidity in bond markets during financial crises and compare two main theories of liquidity in markets: (1) asymmetric information and adverse selection, and (2) heterogenous beliefs. Analyzing the 1873 financial crisis as well as the 2008–2009 crisis, we find that when bond value deteriorates, bond illiquidity increases, consistent with an adverse-selection model of the information sensitivity of debt contracts. While we show that the adverse-selection model of debt liquidity explains a large portion of the rise in illiquidity, we find little support for the hypothesis that opinion dispersion explains illiquidity in financial crises.

AB - Credit market freezes in which debt issuance declines dramatically and market liquidity evaporates are typically observed during financial crises. In the financial crisis of 2008–2009, the structured credit market froze, issuance of corporate bonds declined, and secondary credit markets became highly illiquid. In this paper, we analyze liquidity in bond markets during financial crises and compare two main theories of liquidity in markets: (1) asymmetric information and adverse selection, and (2) heterogenous beliefs. Analyzing the 1873 financial crisis as well as the 2008–2009 crisis, we find that when bond value deteriorates, bond illiquidity increases, consistent with an adverse-selection model of the information sensitivity of debt contracts. While we show that the adverse-selection model of debt liquidity explains a large portion of the rise in illiquidity, we find little support for the hypothesis that opinion dispersion explains illiquidity in financial crises.

UR - http://www.scopus.com/inward/record.url?scp=85047458822&partnerID=8YFLogxK

UR - http://www.scopus.com/inward/citedby.url?scp=85047458822&partnerID=8YFLogxK

U2 - 10.1086/696065

DO - 10.1086/696065

M3 - Article

VL - 32

SP - 493

EP - 526

JO - NBER Macroeconomics Annual

JF - NBER Macroeconomics Annual

SN - 0889-3365

IS - 1

ER -