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Illiquidity Contagion and Liquidity Crashes

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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https://hal-hec.archives-ouvertes.fr/hal-00998274
Contributor : Antoine Haldemann <>
Submitted on : Saturday, May 31, 2014 - 2:48:56 PM
Last modification on : Thursday, January 11, 2018 - 6:19:32 AM

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

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