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Understanding liquidity and credit risks in the financial crisis.

Gefang, Deborah and Koop, Gary and Potter, Simon M. (2011) Understanding liquidity and credit risks in the financial crisis. Journal of Empirical Finance, 18 (5). pp. 903-914. ISSN 0927-5398

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Abstract

This paper develops a structured dynamic factor model for the spreads between London Interbank Offered Rate (LIBOR) and overnight index swap (OIS) rates for a panel of banks. Our model involves latent factors which reflect liquidity and credit risk. Our empirical results show that surges in the short term LIBOR-OIS spreads during the 2007–2009 financial crisis were largely driven by liquidity risk. However, credit risk played a more significant role in the longer term (twelve-month) LIBOR-OIS spread. The liquidity risk factors are more volatile than the credit risk factor. Most of the familiar events in the financial crisis are linked more to movements in liquidity risk than credit risk.

Item Type: Article
Journal or Publication Title: Journal of Empirical Finance
Uncontrolled Keywords: Dynamic factor model ; LIBOR-OIS spread ; Credit default swap
Subjects: H Social Sciences > HB Economic Theory
Departments: Lancaster University Management School > Economics
ID Code: 39671
Deposited By: Deborah Gefang
Deposited On: 03 Feb 2011 09:18
Refereed?: Yes
Published?: Published
Last Modified: 09 Jan 2013 16:13
Identification Number:
URI: http://eprints.lancs.ac.uk/id/eprint/39671

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