 The sovereign-bank diabolic loop and ESBiesMarkus Brunnermeier, Luis Garicano, Philip Lane, Marco Pagano, Ricardo Reis, Tano Santos, David Thesmar, Stijn Van Nieuwerburgh and Dimitri Vayanos CEP Discussion Papers from Centre for Economic Performance, LSE Abstract: We propose a simple model of the sovereign-bank diabolic loop, and establish four results. First, the diabolic loop can be avoided by restricting banks domestic sovereign exposures relative to their equity. Second, equity requirements can be lowered if banks only hold senior domestic sovereign debt. Third, such requirements shrink even further if banks only hold the senior tranche of an internationally diversified sovereign portfolio known as ESBies in the euro-area context. Finally, ESBies generate more safe assets than domestic debt tranching alone; and, insofar as the diabolic loop is defused, the junior tranche generated by the securitization is itself risk-free. Keywords: ‘diabolic loop’; sovereign debt crisis; ESBies (search for similar items in EconPapers) Downloads: (external link) Related works: Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text Persistent link: https://EconPapers.repec.org/RePEc:cep:cepdps:dp1414 Access Statistics for this paper More papers in CEP Discussion Papers from Centre for Economic Performance, LSE |
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