|
As Hegde and Paliwal (2011) indicate, the models of financial crisis and contagion predict
that an economic emergency becomes a crisis of market liquidity in the presence of borrowing
constraints, information asymmetry and risk aversion. During the global financial crisis,
originating from the US subprime loan problem, it was not surprising to note that distress
disseminated across global money markets, amplifying both default and systemic risks. This
mechanism could operate through direct linkages among global financial markets. Uncertainty
over the mortgage exposure of counterparties and inability to value their respective assets
were particularly enhanced after the subsidiaries of BNP Paribas announced the suspension
of liquidation of asset on August 9, 2007. Taylor and Williams (2009) point out that the
traders in New York City (NYC), London, and other financial centers around the world faced
a dramatic change in the conditions of the money markets from that date onward.
The impact of this was felt, particularly in the major financial markets, in the form of
widening of the London Interbank Offered Rate – Overnight Indexed Swap (LIBOR-OIS)
spreads, which in turn led to increased funding costs in the growing default risk. The collapse
of Lehman Brothers saw a peak in distress in the global money markets, leading to a further
widening of these spreads.
|
