NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

A Market Based Solution for Fire Sales and Other Pecuniary Externalities

Weerachart T. Kilenthong, Robert M. Townsend

NBER Working Paper No. 22056
Issued in March 2016
NBER Program(s):DEV, IFM

We show how bundling, exclusivity and additional markets internalize fire sale and other pecuniary externalities. Ex ante competition can achieve a constrained efficient allocation. The solution can be put rather simply: create segregated market exchanges which specify prices in advance and price the right to trade in these markets so that participant types pay, or are compensated, consistent with the market exchange they choose and that type's excess demand contribution to the price in that exchange. We do not need to identify and quantify some policy intervention. With the appropriate ex ante design we can let markets solve the problem.

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Document Object Identifier (DOI): 10.3386/w22056

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