Ingo Fender

Corporate Hedging: The Impact of Financial Derivatives on the Broad Credit Channel of Monetary Policy

This complementary paper to Froot, Scharfstein, and Stein (1993) seeks to explore some of the corporate finance foundations of monetary economics. In particular, we investigate the impact of corporate risk management strategies on the monetary transmission mechanism. We employ a simple model of a financial accelerator (synonymously: a broad credit channel of monetary policy transmission) to argue that information asymmetries - which are at the heart of these models of the transmission mechanism - create incentives for corporate hedging programmes, that is, cash flow management. These policies, in turn, diminish the impact of monetary policy measures, which is reduced to the pure cost-of-capital effect.

The pricing of subprime mortgage risk in good times and bad: evidence from the ABX.HE indices

This article investigates the pricing of subprime mortgage risk using data for the ABX.HE indices, which have become a key barometer of market conditions during the recent financial crisis. After a discussion of ABX index mechanics and observed pricing patterns, we use regression analysis to establish the relationship between observed index returns and macroeconomic news as well as market-based proxies of various pricing factors. The results imply that declining risk appetite and heightened concerns about market illiquidity–likely due in part to significant short positioning–have provided a sizeable contribution to the observed collapse in ABX prices. In particular, while fundamental factors, such as housing market activity, have continued to exert an important influence on the subordinated indices, those backed by senior exposures have tended to react more to the general deterioration of the financial market environment. This provides further support for the inappropriateness of pricing models that do not account sufficiently for factors such as risk appetite and liquidity risk, particularly in periods of stress. In addition, as related risk premia can be captured by unconstrained investors, these findings lend support to government measures aimed at taking troubled assets off banks’ balance sheets (e.g. the Troubled Asset Relief Program).

The Impact of Corporate Risk Management on Monetary Policy Transmission: Some Empirical Evidence

Quite an impressive amount of recent academic research focuses on the idea that financial factors may cause or reinforce real fluctuations. In these models, it is typically a monetary policy shock that serves to lower the value of an asset which is used to secure a firms borrowing, thereby generating broad credit channel effects of monetary transmission. We empirically investigate the impact of corporate risk management strategies on this specific transmission channel by using the seminal paper of Gertler and Gilchrist (1994) as a benchmark. A potentially important impact of corporate hedging is suggested by corporate finance models that generate hedge incentives by introducing asymmetric information into the credit markets, the assumption at the very heart of the available theories of a broad credit channel. The advent of liquid US interest rate derivatives markets in the mid-1970s should, therefore, serve as something like a turning point in the history of US monetary transmission. Credit channel effects should have been in operation prior to the introduction of these markets, while any such effect should have tended to vanish afterwards. In addition, we should be able to detect marked differences in the behaviour of small and large firms up to the 1970s in contrast to a broadly identical behaviour on the part of these firms in the period thereafter.

An International Survey of Stress Tests

In the summer of 2000, central banks from the Group of Ten countries surveyed large international banks about their use of stress tests_a risk management tool that measures a firms exposure to extreme movements in asset prices. The survey findings highlight the risks that most concern financial institutions and clarify how these institutions use stress tests in their overall risk management programs.

Geldtheorie, Geldpolitik und Finanzmärkte

Bis zur Mitte der 70er Jahre war die monetare Makrookonomik ein wenig kontroverser Teil der okonomischen Analyse. Die verwendeten Ansatze zur Erklarung der Transmission geldpolitischer Impulse beruhten auf dem keynesianisch gepragten IS-LM Modell, welches um eine Angebotsseite mit rigiden Preisen und Lohnen erweitert wurde, und der Phillips-Kurve. Monetare Okonomen benutzten empirische makrookonomische Modelle mit Hunderten von Gleichungen um Konjunkturschwankungen vorherzusagen und kontrazyklische Wirtschaftspolitiken zur Feinsteuerung der Volkswirtschaft auf hohem Beschaftigungsniveau bei geringer Inflation zu entwickeln. Okonomen, die dieser Entwicklung kritisch gegenuber standen, betonten die Bedeutung von Wertpapiermarkten und Portfolioanpassungen und verwiesen auf die empirische Stabilitat von einfachen langfristigen Beziehungen wie der Quantitatsgleichung. Trotzdem gingen sie nicht wesentlich uber den grundlegenden Rahmen zur Analyse von Makrophanomenen hinaus.

Monetary Theory, Monetary Policy, and Financial Markets

Towards the mid-1970s, mainstream monetary macroeconomics was a well-established body of economic analysis. Work in this field was based on the analytical cornerstones of the IS-LM framework augmented by a supply side of sticky prices and wages and the Philipps Curve. Monetary economists used models encompassing hundreds of equations supposedly reflecting economic behavior to predict business cycle fluctuations and devise counter-cyclical policies aimed at fine-tuning the economy. Those who were critical of Keynesian activist policies emphasized the importance of asset markets and portfolio adjustment over short-run equilibria in the goods markets and pointed to the empirical stability of simple long-run relations such as the quantity equation. Nevertheless, they did not go substantially beyond the basic framework of modeling macroeconomic relations.

Daily CDS Pricing in Emerging Markets Before and During the Global Financial Crisis

In this paper, we study the determinants of daily spreads for emerging market sovereign credit default swaps (CDS) over the period April 2002–December 2011. Using GARCH models, we find, first, that daily CDS spreads for emerging market sovereigns are more related to global and regional risk premia than to country-specific risk factors. This result is particularly evident during the second subsample (August 2007–December 2011), where neither macroeconomic variables nor country ratings significantly explain CDS spread changes. Second, measures of US bond, equity, and CDX High Yield returns as well as emerging market credit returns turn out to be the most dominant drivers of CDS spread changes. Finally, our analysis suggests that CDS spreads are more strongly influenced by international spillover effects during periods of market stress.