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Discussion Paper Details

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Title: Financial Black-Holes: The Interaction of Financial Regulation and Bailout Guarantees

Author(s): Romain Ranci�re and Aaron Tornell

Publication Date: February 2011

Keyword(s): Bailout Guarantees, Derivatives, Financial Crisis and Financial Regulation

Programme Area(s): Financial Economics and International Macroeconomics

Abstract: This paper argues that the U.S. financial crisis is a new type of crisis: a "financial black hole." Financial black holes are characterized by the breaking-up of credit market discipline and the large-scale financing of negative NPV projects. In a theoretical model, we explain how the combination of perceived government guarantees and the ability to issues catastrophe-bond-like liabilities generate financial black holes. We then show that the stylized facts of the U.S. economy are consistent with a financial black hole equilbrium.

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Bibliographic Reference

Ranci�re, R and Tornell, A. 2011. 'Financial Black-Holes: The Interaction of Financial Regulation and Bailout Guarantees'. London, Centre for Economic Policy Research. https://cepr.org/active/publications/discussion_papers/dp.php?dpno=8248