The economics of recapitalizing large failing financial firms
- Is it legally and economically possible to resolve a large failing financial firm without either imposing systemic costs upon the broader economy or increasing banks' risk-taking incentives? This dissertation grapples with two facets of this question. The first chapter assesses a particular proposed resolution mechanism, a new Chapter 14 of the Bankruptcy Code, and applies it to the economic history of Lehman Brothers' case. It shows that, because the run on Lehman was driven by perceived insolvency, because that run was foreseeable, and because Lehman had sufficient long-term and subordinated debt, Lehman's would have been the type of case that Chapter 14 and other new recapitalization mechanisms are best structured to address. Chapter 14 would have imposed real losses on creditors, while also reducing aggregate losses by hundreds of billions of dollars. Expectations that short-term lenders and clients would be paid in full at maturity would have dramatically reduced the risk of runs and systemic costs. The second chapter undertakes to identify a market-based measure that can help to predict more precisely a large financial firm's distress and consequent need for resolution. The chapter demonstrates that a new measure of market perceptions of solvency, the "Solvency Ratio, " theoretically and empirically outperforms the existing measures of Distance to Default and CDS spreads when predicting distress at large financial firms. In a sample of 11 systemically important U.S. financial firms over the 2004-2013 time-frame, a rule based upon the Solvency Ratio performs remarkably well whereas one cannot construct a similar highly performing rule for either Distance to Default or CDS spreads. These results and others presented demonstrate that policymakers and investors would do well to track the Solvency Ratio in order to better understand when systemically important firms will require resolution in the future.
|Type of resource
|electronic; electronic resource; remote
|1 online resource.
|Stanford University, Department of Economics.
|Polinsky, A. Mitchell
|Polinsky, A. Mitchell
|Statement of responsibility
|Submitted to the Department of Economics.
|Thesis (Ph.D.)--Stanford University, 2017.
- © 2017 by Emily Casey Warren Kapur
- This work is licensed under a Creative Commons Attribution Non Commercial 3.0 Unported license (CC BY-NC).
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