Welcome to my personal website!
I am a Financial Research Advisor in the Research and Statistics Group at the Federal Reserve Bank of New York. My main research interests are in financial economics with links to macroeconomics, in particular the role that frictions play for financial institutions, financial markets, and the economy more broadly. I have worked on issues of financial stability such as rollover risk and fire sales, as well as on bank supervision and monetary policy transmission.
- Fragility of Safe Asset Markets
with Gregory Phelan
We model a safe asset market with investors valuing safety, investors valuing liquidity, and constrained dealers. While safety investors and liquidity investors can interact symbiotically with offsetting trades in times of stress, we show that liquidity investors’ strategic interaction harbors the potential for self-fulfilling fragility. Surprisingly, standard flight to safety in times of stress can have a destabilizing effect and trigger a dash for cash by liquidity investors. This explains how safe asset markets can experience price crashes, as in March 2020. The announcement and execution of policy interventions play important roles for the functioning of safe asset markets.
- When It Rains, It Pours: Cyber Risk and Financial Conditions
with Anna Kovner and Michael Junho Lee
We analyze how systemic cyber risk in the wholesale payments network relates to adverse financial conditions. We show that at the onset of the COVID-19 pandemic, payment activity increased, became more concentrated, and showed intraday liquidity stress. Cyber vulnerability was elevated in late February and early March 2020, with the potential impact of a cyberattack about 40 percent greater than in the remainder of 2020. Policy interventions to stabilize markets mitigated cyber vulnerability, particularly corresponding to large increases in aggregate reserves. We observe that cyber vulnerability and other financial shocks cannot be treated as uncorrelated risks and policy solutions for cyber security need to be calibrated for adverse financial conditions.
- Bank-Intermediated Arbitrage
with Nina Boyarchenko, Pooja Gupta, Or Shachar, and Peter Van Tassel
We argue that post-crisis banking regulations pass through from regulated institutions to unregulated arbitrageurs. We document that, once post-crisis regulations bind post 2014, hedge funds use a larger number of prime brokers, diversify away from G-SIB affiliated prime brokers, and that the match to such prime brokers is more fragile. Tighter regulatory constraints disincentivize regulated institutions not only to engage in arbitrage activity themselves but also to provide leverage to other arbitrageurs. Indeed, we show that the maximum leverage allowed and the implied return on basis trades is considerably lower under post-crisis regulation, in spite of persistently wider spreads.
- Horizon-Dependent Risk Aversion and the Timing and Pricing of Uncertainty
with Marianne Andries and Martin Schmalz
Inspired by experimental evidence, we amend the recursive utility model to let risk aversion decrease with the temporal horizon. Our pseudo-recursive preferences remain tractable and retain appealing features of the long-run risk framework, notably its success at explaining asset pricing moments. Calibrating the agents' preferences to explain the market returns observed in the data no longer implies an extreme preference for early resolutions of uncertainty; and captures key puzzles in finance on the valuation and demand for risk at long maturities.
Review of Financial Studies, revision requested.
- The Term Structure of the Price of Variance Risk
with Marianne Andries, Martin Schmalz and Yichuan Wang
We estimate the term structure of the price of variance risk (PVR), which helps distinguish between competing asset-pricing theories. First, we measure the PVR as proportional to the Sharpe ratio of short-term holding returns of delta-neutral index straddles; second, we estimate the PVR in a Heston (1993) stochastic-volatility model. In both cases, the estimation is performed separately for different maturities. We find the PVR is negative and decreases in absolute value with maturity; it is more negative and its term structure is steeper when volatility is high. These findings are inconsistent with calibrations of established asset-pricing models that assume constant risk aversion across maturities.
- Anxiety and Pro-Cyclical Risk Taking with Bayesian Agents
with Martin Schmalz
We provide a model that can explain empirically relevant variations in confidence and risk taking by combining horizon-dependent risk aversion (“anxiety”) and selective memory in a Bayesian intra-personal game. In the time-series, overconfidence is more prevalent when actual risk levels are high, while underconfidence occurs when risks are low. In the cross-section, more anxious agents are more prone to biased confidence and their beliefs fluctuate more. This systematic variation in confidence levels can lead to objectively excessive risk taking by “insiders” with the potential to amplify boom-bust cycles.
- Cyber Risk and the U.S. Financial System: A Pre-Mortem Analysis
with Anna Kovner and Michael Junho Lee
We model how a cyber attack may be amplified through the U.S. financial system, focusing on the wholesale payments network. We estimate that the impairment of any of the five most active U.S. banks will result in significant spillovers to other banks, with 38 percent of the network affected on average. The impact varies and can be larger on particular days and geographies. When banks respond to uncertainty by liquidity hoarding, the potential impact in forgone payment activity is dramatic, reaching more than 2.5 times daily GDP. In a reverse stress test, interruptions originating from banks with less than $10 billion in assets are sufficient to impair a significant amount of the system. Additional risk emerges from third party providers, which connect otherwise unrelated banks, and from financial market utilities.
Journal of Financial Economics, 2022, 145(3), 802–826. [WP Version]
- Cournot Fire Sales
with Gregory Phelan
In standard Walrasian macro-finance models, pecuniary externalities due to fire sales lead to excessive borrowing and insufficient liquidity holdings. We investigate whether imperfect competition (Cournot) improves welfare through internalizing the externality and find that this is far from guaranteed. Cournot competition can overcorrect the inefficiently high borrowing in a standard model of levered real investment. In contrast, Cournot competition can exacerbate the inefficiently low liquidity in a standard model of financial portfolio choice. Implications for welfare and regulation are therefore sector-specific, depending both on the nature of the shocks and the competitiveness of the industry.
American Economic Journal: Macroeconomics, 2022, 14(3), 508–542. [WP Version]
- Resource Allocation in Bank Supervision: Trade-offs and Outcomes
with David Lucca and Robert Townsend
We estimate a structural model of resource allocation on work hours of Federal Reserve bank supervisors to disentangle how supervisory technology, preferences, and resource constraints impact bank outcomes. We find a significant effect of supervision on bank risk and large technological scale economies with respect to bank size. Consistent with macroprudential objectives, revealed supervisory preferences disproportionately weight larger banks, especially post-2008 when a resource reallocation to larger banks increased risk on average across all banks. Shadow cost estimates show tight resources around the financial crisis and counterfactuals indicate that binding constraints have large effects on the distribution of bank outcomes.
Journal of Finance, 2022, 77(3), 1685–1736. [WP Version]
- Watering a Lemon Tree: Heterogeneous Risk Taking and Monetary Policy Transmission
with Dong Choi and Tanju Yorulmazer
We build a general equilibrium model with financial frictions that impede monetary policy transmission. Agents with heterogeneous productivity can increase investment by levering up, which increases liquidity risk due to maturity transformation. In equilibrium, more productive agents choose higher leverage than less productive agents, which exposes the more productive agents to greater liquidity risk and makes their investment less responsive to interest rate changes. When monetary policy reduces interest rates, aggregate investment quality deteriorates, which blunts the monetary stimulus and decreases asset liquidation values. This, in turn, reduces loan demand, decreasing the interest rate further and generating a negative spiral. Overall, the allocation of credit is distorted and monetary stimulus can become ineffective even with significant interest rate drops.
Journal of Financial Intermediation, 2021, 47, 100873. [WP Version]
- Fire-Sale Spillovers and Systemic Risk
with Fernando Duarte
We identify and track over time the factors that make the financial system vulnerable to fire sales by constructing an index of aggregate vulnerability. The index starts increasing quickly in 2004, before most other major systemic risk measures, and triples by 2008. The fire‐sale‐specific factors of delevering speed and concentration of illiquid assets account for the majority of this increase. Individual banks' contributions to aggregate vulnerability predict other firm‐specific measures of systemic risk, including SRISK and ΔCoVaR. The balance sheet‐based measures we propose are therefore useful early indicators of when and where vulnerabilities are building up.
Journal of Finance, 2021, 76(3), 1251–1294. [WP Version]
- Rollover Risk as Market Discipline: A Two-Sided Inefficiency
Why does the market discipline that financial intermediaries face seem too weak during booms and too strong during crises? This paper shows in a general equilibrium setting that rollover risk as a disciplining device is effective only if all intermediaries face purely idiosyncratic risk. However, if assets are correlated, a two-sided inefficiency arises: Good aggregate states have intermediaries taking excessive risks, while bad aggregate states suffer from costly fire sales. The driving force behind this inefficiency is an amplifying feedback loop between asset values and market discipline. In equilibrium, financial intermediaries inefficiently amplify both positive and negative aggregate shocks.
Journal of Financial Economics, 2017, 126(2), 252–269. [WP Version]
- Supervising Large, Complex Financial Institutions: What Do Supervisors Do?
with Andrew Haughwout, Beverly Hirtle, Anna Kovner, David Lucca, and Matthew Plosser
The Federal Reserve is responsible for the prudential supervision of bank holding companies (BHCs) on a consolidated basis. Prudential supervision involves monitoring and oversight to assess whether these firms are engaged in unsafe or unsound practices, as well as ensuring that firms are taking corrective actions to address such practices. Prudential supervision is interlinked with, but distinct from, regulation, which involves the development and promulgation of the rules under which BHCs and other regulated financial intermediaries operate. This paper describes the Federal Reserve’s supervisory approach for large, complex financial companies and how prudential supervisory activities are structured, staffed, and implemented on a day‐to‐day basis at the Federal Reserve Bank of New York as part of the broader supervisory program of the Federal Reserve System. The goal of the paper is to generate insight for those not involved in supervision into what supervisors do and how they do it. Understanding how prudential supervision works is a critical precursor to determining how to measure its impact and effectiveness.
Federal Reserve Bank of New York Economic Policy Review, 2017, 23(1), 57–77.
- Anxiety in the Face of Risk
with Martin Schmalz
We model an ‘anxious’ agent as one who is more risk averse with respect to imminent risks than with respect to distant risks. Based on a utility function that captures individual subjects’ behavior in experiments, we provide a tractable theory relaxing the restriction of constant risk aversion across horizons and show that it generates rich implications. We first apply the model to insurance markets and explain the high premia for short-horizon insurance. Then, we show that costly delegated portfolio management, investment advice, and withdrawal fees emerge as endogenous features and strategies to cope with dynamic inconsistency in intratemporal risk–return tradeoffs.
Journal of Financial Economics, 2016, 121(2), 414–426. [WP Version]
- Sooner or Later: Timing of Monetary Policy with Heterogeneous Risk-Taking
with Dong Choi and Tanju Yorulmazer
We analyze the effects and interactions of monetary policy tools that differ in terms of their timing and their targeting. In a model with heterogeneous agents, more productive agents endogenously expose themselves to higher interim liquidity risk by borrowing and investing more. Two inefficiencies impair the transmission of monetary policy: an investment- and a hoarding inefficiency. Heterogeneous agents respond disparately to ex-ante, conventional and ex-post, unconventional monetary policy. However, we show that the two policies are equivalent due to the endogeneity of hoarding. In contrast, targeted interventions such as discount-window lending can alleviate both inefficiencies at the same time.
American Economic Review (Papers and Proceedings), 2016, 106(5), 490–495.
- Stability of Funding Models: An Analytical Framework
with Todd Keister, James McAndrews and Tanju Yorulmazer
We use a simple analytical framework to illustrate the determinants of a financial intermediary’s ability to survive stress events. An intermediary in our framework faces two types of risk: the value of its assets may decline and/or its short-term creditors may decide not to roll over their debt. We measure its stability by looking at what combinations of shocks it can experience while remaining solvent. We study how stability depends on the intermediary’s balance-sheet characteristics such as its leverage, the maturity structure of its debt, and the liquidity and riskiness of its asset portfolio. We also show how our framework can be applied to study current policy issues, including liquidity requirements, discount window policy, and different approaches to reforming money market mutual funds.
Federal Reserve Bank of New York Economic Policy Review, 2014, 20(1), 29–49.
- Macroeconomics with Financial Frictions: A Survey
with Markus Brunnermeier and Yuliy Sannikov
This article surveys the macroeconomic implications of financial frictions. Financial frictions lead to persistence and when combined with illiquidity to non-linear amplification effects. Risk is endogenous and liquidity spirals cause financial instability. Increasing margins further restrict leverage and exacerbate downturns. A demand for liquid assets and a role for money emerges. The market outcome is generically not even constrained efficient and the issuance of government debt can lead to a Pareto improvement. While financial institutions can mitigate frictions, they introduce additional fragility and through their erratic money creation harm price stability.
in Advances in Economics and Econometrics, Tenth World Congress of the Econometric Society, 2013, ed. by D. Acemoglu, M. Arellano and E. Dekel, Cambridge University Press.