Re-Use of Collateral: Leverage, Volatility, and Welfare

Johannes Brumm, Michael Grill, Felix Kubler and Karl Schmedders
Additional contact information
Johannes Brumm: Karlsruhe Institute of Technology
Michael Grill: European Central Bank (ECB)

No 17-04, Swiss Finance Institute Research Paper Series from Swiss Finance Institute

Abstract: We assess the quantitative implications of the re-use of collateral on financial market leverage, volatility, and welfare within an infinite-horizon asset-pricing model with heterogeneous agents. In our model, the ability of agents to re-use frees up collateral that can be used to back more transactions. Re-use thus contributes to the build-up of leverage and significantly increases volatility in financial markets. When introducing limits on re-use, we find that volatility is strictly decreasing as these limits become tighter, yet the impact on welfare is non-monotone. In the model, allowing for some re-use can improve welfare as it enables agents to share risk more effectively. Allowing reuse beyond intermediate levels, however, can lead to excessive leverage and lower welfare. So the analysis in this paper provides a rationale for limiting, yet not banning, re-use in financial markets.

Keywords: heterogeneous agents; leverage; re-use of collateral; volatility; welfare (search for similar items in EconPapers)
JEL-codes: D53 G01 G12 G18 (search for similar items in EconPapers)
Pages: 31 pages
Date: 2017-02
New Economics Papers: this item is included in nep-ban and nep-rmg
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Citations: View citations in EconPapers (2)

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Related works:
Journal Article: Re-use of collateral: Leverage, volatility, and welfare (2023)
Working Paper: Re-use of collateral: leverage, volatility, and welfare (2018)
Working Paper: Re-use of Collateral: Leverage, Volatility, and Welfare (2017)
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Persistent link: https://EconPapers.repec.org/RePEc:chf:rpseri:rp1704

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