Munich Personal RePEc Archive

Managing Markets for Toxic Assets

House, Christopher and Masatlioglu, Yusufcan (2010): Managing Markets for Toxic Assets.

[img]
Preview
PDF
MPRA_paper_24590.pdf

Download (414Kb) | Preview

Abstract

We present a model in which banks trade toxic assets to fund investments. Adverse selection in toxic assets reduces liquidity and investment. Investment is inefficiently low because banks must sell high-quality assets below their "fair" value. We consider whether equity injections and asset purchases improve market outcomes. By allowing banks to fund investments without selling high-quality assets, equity injections reduce the number of high-quality assets traded and further contaminate the interbank market. If equity is directed to firms with the greatest liquidity needs, the contamination effect causes investment to fall. Asset purchase programs often improve liquidity, investment and welfare.

UB_LMU-Logo
MPRA is a RePEc service hosted by
the Munich University Library in Germany.