A leverage-based measure of financial stability |
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| Institution: | 1. International Monetary Fund, United States;2. University of Southern Denmark, Denmark;3. Columbia University United States;1. Columbia Business School, 3022 Broadway, Uris Hall 601, New York 10027, NY, United States;2. International Monetary Fund, Research Department, 700 19th St, NW, Washington 20431, DC, United States;1. University of San Diego School of Business, San Diego, CA 92110 US;1. Universitat Jaume I, Spain;2. Brazilian School of Public and Business Administration, Getulio Vargas Foundation, Brazil;3. EPGE Brazilian School of Economics and Finance, Getulio Vargas Foundation, Brazil;4. Harvard Business School, USA;5. Kelley School of Business, Indiana University, USA |
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| Abstract: | The size and the leverage of financial market investors and the elasticity of demand of unlevered investors define MinMaSS, the smallest market size that can support a given degree of leverage. The financial system’s potential for financial crises can be measured by the stability ratio, the ratio of total market size to MinMaSS. We use that financial stability metric to gauge the buildup of vulnerability in the run-up to the 1998 Long-Term Capital Management crisis and argue that policymakers could have detected the potential for the crisis. |
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