Discussion Paper

How Does Market Power Affect Fire-Sale Externalities?

Abstract: An important role of capital and liquidity regulations for financial institutions is to counteract inefficiencies associated with “fire-sale externalities,” such as the tendency of institutions to lever up and hold illiquid assets to the extent that their collective actions increase financial vulnerabilities. However, theoretical models that study such externalities commonly assume perfect competition among financial institutions, in spite of high (and increasing) financial sector concentration. In this post, which is based on our forthcoming article, we consider instead how the effects of fire-sale externalities change when financial institutions have market power.

Keywords: financial institutions; fire sale; concentration; market power;

JEL Classification: G1; G2; E2;

Bibliographic Information

Provider: Federal Reserve Bank of New York

Part of Series: Liberty Street Economics

Publication Date: 2021-11-10

Number: 20211110