TY  - JOUR
AU  - Krishnamurthy,Arvind
TI  - Amplification Mechanisms in Liquidity Crises
JF  - National Bureau of Economic Research Working Paper Series
VL  - No. 15040
PY  - 2009
Y2  - June 2009
UR  - http://www.nber.org/papers/w15040
L1  - http://www.nber.org/papers/w15040.pdf
N1  - Author contact info:
Arvind Krishnamurthy
Kellogg School of Management
Northwestern University
2001 Sheridan Road
Evanston, IL 60208
Tel: 847/491-2671
Fax: 847/491-5719
E-Mail: a-krishnamurthy@northwestern.edu
AB  - I describe two amplifications mechanisms that operate during liquidity crises and discuss the scope for central bank policies during crises as well as preventive policies in advance of crises.  The first mechanism works through asset prices and balance sheets. A negative shock to the balance sheets of asset-holders causes them to liquidate assets, lowering prices, further deteriorating balance sheets, culminating in a crisis.  The second mechanism involves investors' Knightian uncertainty. Unusual shocks to untested financial innovations lead agents to become uncertain about their investments causing them to disengage from markets and increase their demand for liquidity.  This behavior leads to a loss of liquidity and a crisis.
ER  -