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Journal Articles Review of Financial Studies Year : 2014

Illiquidity Contagion and Liquidity Crashes

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Abstract

Liquidity providers often learn information about an asset from prices of other assets. We show that this generates a self-reinforcing positive relationship between price informativeness and liquidity. This relationship causes liquidity spillovers and is a source of fragility: a small drop in the liquidity of one asset can, through a feedback loop, result in a very large drop in market liquidity and price informativeness (a liquidity crash). This feedback loop provides a new explanation for comovements in liquidity and liquidity dry-ups. It also generates multiple equilibria.
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Dates and versions

hal-00998274 , version 1 (31-05-2014)

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Giovanni Cespa, Thierry Foucault. Illiquidity Contagion and Liquidity Crashes. Review of Financial Studies, 2014, 27 (6), pp.1615-1660. ⟨10.1093/rfs/hhu016⟩. ⟨hal-00998274⟩

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