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Context 1
... focus on the US economy due to the large availability of data concerning the composition and evolution of financial operators' balance sheets. Figure 1 clearly shows that the total value of financial assets as a share of GDP remained pretty constant until the beginning of the 80s. Thanks to financial deregulation -starting in the second half 70s and taking momentum in the 80s -the financial side of the economy has been booming, from being twice the GDP in 1975 to five times larger in 2013. ...
Context 2
... while the subprime crisis seem to have had a devastating effect on these institutions. [FIGURE 9 HERE] Securities Brokers and Dealers have experienced a similar path (see Figure 10). In fact, the size of its balance has been steadily expanding from the beginning of the 80s until the subprime crisis, both with respect to GDP (investment banks' assets-to-GDP ratio reached 32.6% in 2007 from 1.1% in 1975) and to the whole financial sector (6.9% in 2007 from 0.5% in 1975). ...
Context 3
... according to Figure 11, 'Investment Funds' have become the main components of the financial system and have kept a rather stable relative quota within the financial system, approximately around 30-35% of its size. This sector experienced different trends with respect to asset-backed security issuers, MMMFs, and Security Broker and Dealers. ...
Context 4
... the following section, we will try to find an explanation for these stylized facts. Figure 12 portrays the logic of a traditional monetary circuit into a closed economic system in which government and central bank are also considered alongside private economic agents. ...
Context 5
... in Figure 12 we show the relationships between economic actors that mainly pertain to the real side of the economy (i.e. non-financial businesses, households, government) and financial operators. ...
Context 6
... all set of financial operators we consider constitutes the financial sphere of the economy. In figure 12, the dashed red line recollecting financial institutions represents the relative dimension of the financial side of the economy with respect to the real side. ...
Context 7
... Figure 12 the arrows connecting various economic agents to each other stand for the creation and circulation of money (i.e. means of payments in the form of cash or, more relevantly, bank money). ...
Context 8
... After this opening stage, new bank money flows from firms to households in the form of wages. In the representation of the circuit put forward in Figure 12, we included the public sector. Government purchases goods from firms and pay wages to households. ...
Context 9
... points are worth stressing as to the logic of the traditional monetary circuit story as described so far and graphically represented in Figure 12. ...
Context 10
... present a more formal accounting of the relationships portrayed in figure 12 to firms (ΔL) allow them to implement production decisions (i.e. pay wages W to households) and undertake investment plans (ΔK). ...
Context 11
... is no doubt that since 1970s the process of financial deregulation and financialization has radically changed the way financial institutions work and interact with the real economy, at least with respect to the prototype of the monetary circuit scheme considered above. In Figure 13, we portray an amended monetary circuit in which we try to introduce some relevant changes that have affected the financial side of the economy in the last three decades. 7 Our representation of a modern financialized economy heavily hinges upon the emerging literature on the shadow bank system (Adrian and Shin, 2010;Adrian and Ashcraft, 2012;Gorton, 2012;Gorton and Metrick, 2009, Stein, 2010). ...
Context 12
... Our representation of a modern financialized economy heavily hinges upon the emerging literature on the shadow bank system (Adrian and Shin, 2010;Adrian and Ashcraft, 2012;Gorton, 2012;Gorton and Metrick, 2009, Stein, 2010). Herein we list up some points of departures from our description of a financialized economy, as reported in figure 13, with respect to the traditional monetary circuit illustrated in figure 12. ...
Context 13
... Our representation of a modern financialized economy heavily hinges upon the emerging literature on the shadow bank system (Adrian and Shin, 2010;Adrian and Ashcraft, 2012;Gorton, 2012;Gorton and Metrick, 2009, Stein, 2010). Herein we list up some points of departures from our description of a financialized economy, as reported in figure 13, with respect to the traditional monetary circuit illustrated in figure 12. ...
Context 14
... similarly to Figure 12, interactions between the financial sphere and the real side of the economy are portrayed through black arrows. On the contrary, red arrows stand for burgeoning financial relationships inside the financial system. ...
Context 15
... the contrary, red arrows stand for burgeoning financial relationships inside the financial system. In this regard, what is changed with respect to Figure 12 is the intensity of some financial-real side relationships and/or their causal direction. On the right hand side of Figure 13, the bold lines between commercial banks and households stand for the expansion of consumption loans and mortgages, and the ensuing increase in households' debt exposure towards the financial system (see Orhangazi, 2011;Passarella and Sawyer, 2013;Passarella, 2014). ...
Context 16
... this regard, what is changed with respect to Figure 12 is the intensity of some financial-real side relationships and/or their causal direction. On the right hand side of Figure 13, the bold lines between commercial banks and households stand for the expansion of consumption loans and mortgages, and the ensuing increase in households' debt exposure towards the financial system (see Orhangazi, 2011;Passarella and Sawyer, 2013;Passarella, 2014). On the left-hand side of Figure 13, bold lines between non-financial businesses and the financial system now go both ways instead of being one-way. ...
Context 17
... the right hand side of Figure 13, the bold lines between commercial banks and households stand for the expansion of consumption loans and mortgages, and the ensuing increase in households' debt exposure towards the financial system (see Orhangazi, 2011;Passarella and Sawyer, 2013;Passarella, 2014). On the left-hand side of Figure 13, bold lines between non-financial businesses and the financial system now go both ways instead of being one-way. The logic is that several non- financial companies, in particular big corporations, have moved from being 'deficit units' searching for external finance into 'surplus units' running financial surpluses. ...
Context 18
... several contributions even from a mainstream tradition describes finance as an expanding industry in modern developed economies accounting for an increasing share of their GDP ( Cecchetti and Kharroubi, 2012;Beck et al., 2014;Law and Singh, 2014). In Figure 13, the boundaries of the financial sphere, traced by the red dashed lines, are much wider than what portrayed in Figure 12. In our mind, this represents the expansion of the financial system with respect to the real side. ...
Context 19
... several contributions even from a mainstream tradition describes finance as an expanding industry in modern developed economies accounting for an increasing share of their GDP ( Cecchetti and Kharroubi, 2012;Beck et al., 2014;Law and Singh, 2014). In Figure 13, the boundaries of the financial sphere, traced by the red dashed lines, are much wider than what portrayed in Figure 12. In our mind, this represents the expansion of the financial system with respect to the real side. ...
Context 20
... the financial block of Figure 13 tries to account for some of the inside-finance changes discussed in Section 2, which have been basically overlooked by traditional monetary circuits. In Figure 13, bold letters are meant to stress the increasing importance MMMFs have gained in worldwide financial systems as deposit-like issuer institutions alternative to commercial banks. ...
Context 21
... the financial block of Figure 13 tries to account for some of the inside-finance changes discussed in Section 2, which have been basically overlooked by traditional monetary circuits. In Figure 13, bold letters are meant to stress the increasing importance MMMFs have gained in worldwide financial systems as deposit-like issuer institutions alternative to commercial banks. ...
Context 22
... the large size of the investment bank box (at least with respect to what plot in Figure 12) captures the empirical evidence on the growing importance of brokers and dealers as fundamental market-makers institutions. In a way, it graphically portrays the impressive growth of investment banks' balance sheets (Adrian and Shin, 2010;Gorton and Metrick, 2010), at least until the outbreak of the 2007-2008 financial crisis. ...
Context 23
... also underlines investment banks' crucial role in generating a 'self-feeding financial circuit' that is partially decoupled from the real side circuit (see below). Last but not least, in the upper-right part of the financial block of Figure 13 we explicitly take into account insurance companies as distinct operators with respect to other financial institutions. We do this in order to take onboard the fact that insurance companies have remarkably changed and extended the range of activities with respect to their very traditional function of savings intermediation. ...
Context 24
... well-detached and carefully distinguished financial institutions have become increasingly intertwined in an extraordinary complex system of connections. Red arrows in the financial box of Figure 13 get at least a small part of such a messy tangle. They describe the emergence in the last decades of a sort of financial circuit that is partially delinked from the real side of the economy. ...
Context 25
... the bottom part of Figure 13, commercial banks still perform their peculiar function of creating new purchasing power ex-nihilo. They continue to provide initial finance to both non- financial businesses and households. ...
Context 26
... continue to provide initial finance to both non- financial businesses and households. With respect to Figure 12, loans to households have become relatively more important than loans conceded to other actors. Further, commercial banks may now create money when they take part to REPO agreements as lending counterparts of other financial institutions, typically investment banks. ...
Context 27
... commercial banks may now create money when they take part to REPO agreements as lending counterparts of other financial institutions, typically investment banks. A significant departure with respect to Figure 12 and the standard functioning of the monetary circuit emerges. This is the newly available option of allocating savings among different financial instruments through the intermediation of different financial institutions. ...
Context 28
... the last decade, commercial banks have increasingly replaced the traditional 'originate and hold' practice with the 'originate, repackage and distribute' practice ( Gorton and Pennacchi, 2005;Parlour and Plantin, 2008;Wray, 2007). In the bottom part of Figure 13, we describe it in the simplest way possible. 10 Part of commercial banks assets is pulled and moved off their own balance sheets into legally distinguished entities such as SPV. ...
Context 29
... banks will now present more solid balance sheets and have a chance to expand their asset portfolio newly. 11 Investment banks can finance ABSs purchases by issuing bonds to investment funds and insurance companies (see upper-right part of the financial block in figure 13). Beyond this, they have increasingly recurred to REPOs as short-term means of financing (see Adrian and Shin, 2010; Investment banks purchased increasing amounts of ABSs to be used as collaterals into REPO agreements and derivative contracts. ...
Context 30
... Even further, a self-feeding inner-finance cycle emerges in the event that commercial banks provide investment banks with fresh money through REPOs, and investment banks in turn use these resources to buy ABSs implicitly supplied by commercial banks themselves through securitization (see more on this in section 4). 13 Before August 2007, overconfidence in ABSs as safe and liquid assets was strengthened by the possibility to hedge financial positions through CDS contracts (see the top-right part of the financial block in figure 13). The supply of CDS represents a significant discontinuity in the kind of financial services traditionally offered by insurance companies. ...
Context 31
... balance sheet composition and the ensuing flow of funds emerging in the financialized monetary circuit drawn in Figure 13 are analyzed more formally in the matrices reported below. A butch of works has already attempted to describe the functioning of shadow banking through the mechanisms of stock-flow-consistent matrices (Eatwell, Mouakil and Taylor, 2008;Pilkington, 2008;Lavoie, 2009). ...
Context 32
... start by presenting matrices 2a and 2b, in which we describe in the simplest possible way the very essence of securitization. We end up with the highly complex Matrices 3a and 3b, in which all the financial actors portrayed in figure 13 are eventually considered. 15 In building Matrices 3a and 3b, we relied on the data gathered from the US Flow of Funds, to offer a realistic albeit simplified representation of the balance interconnections underling the private sector of the US economy. ...
Context 33
... Matrices 3a and 3b, we represent the full-fledged financialized monetary circuit portrayed in figure 13. In Matrix 3a, we first take into account a rentier sector in order to take on board the increasing inequality with which personal income and, in particular, personal wealth is distributed among economic actors. ...
Context 34
... of all, the destruction of money through the passages of securitization creates a deep discontinuity with respect to the outcomes of the traditional monetary circuit. According to the traditional monetary circuit portrayed in Figure 12 and in Matrices 1a-1b, the more commercial banks recollected liquidity through demand deposits, the more banks' money remained in the circuit and the less the circuit closed. A lower amount of initial banks' loans were repaid. ...
Context 35
... banks might have been inhibited to further expand their business due to the ensuing increase in leverage and the rise in their financial vulnerability. In Figure 13, securitization now implies that money initially created by commercial banks is eventually destroyed when banks sell the corresponding assets to SPVs. ...
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This paper develops a kaleckian economy in a stock‐flow consistent (SFC) model to assess the effect of contingent convertible bonds (CoCos) in terms of stability through numerical simulations. The specific characteristics of the model are a dual sector of households (workers and investors) and a dual banking system (retail banks and investment banks). Two simulations are implemented. One focuses on an increase in defaults on workers' loans which triggers a write‐down of CoCos issued by retail banks and the other on a decrease in corporate share prices which triggers a write‐down of CoCos issued by investment banks. The overall effects are qualitatively similar. There is a shift of risks and adjustment costs from issuers to holders of CoCos which reduces companies' investment and investing‐households’ consumption. The simulations show that the triggering of CoCos has a positive effect on the balance sheet of CoCos issuers. It also reduces the cost of bailouts. In return, there is an increase in real and financial instability. Two regulatory recommendations follow from this research. (1) Banks could be required to issue a fraction of their debt in CoCos in order to reduce bailout costs. (2) When CoCos are activated, their issuer could be forced not to intervene on all or part of the financial markets, for a predefined period of time and/or value, in order to limit the destabilisation of price assets.
