The Myth of Risk Free Markets

Economies and markets operate on the assumption that U.S. debt securities (“Treasuries”) are risk-free. This means that the United States is expected to pay its debts. Also, Treasuries are supposed to trade easily and efficiently in secondary markets. Unsurprisingly, the rate at which the U.S. borrows represents a risk-free rate against which any number of financial contracts (e.g. corporate loans, derivative securities) are priced. After the 2008 financial crisis, regulation requires financial firms to deepen their reserves of Treasuries as protection against another collapse. Perhaps most importantly, this risk-free status has enabled the U.S. to confidently rely on global capital … Read more

Commoditizing Creditor Control

The following comes to us from Yesha Yadav, Assistant Professor of Law at Vanderbilt Law School:

Scholars have long lamented that the growth of modern finance has given way to a decline in corporate governance. According to current theory, the expansive use of credit derivatives has made these lenders uninterested, even reckless, when it comes to exercising creditor discipline.  Credit derivatives, such as credit default swaps (CDS), allow lenders to trade away the credit risk of the loans they extend. Without economic skin-in-the-game, lenders are left with little motivation to invest in ensuring that debtors remain creditworthy.  Indeed, their interests … Read more

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