DP7436 When Everyone Runs for the Exit

Author(s): Lasse Heje Pedersen

Publication Date: August 2009

Keyword(s): asset pricing , crisis , liquidity risk , quant , risk management , run , unconventional monetary policy

JEL(s): E2 , E44 , E52 , G1 , G11 , G12 , G2

Programme Areas: Financial Economics , International Macroeconomics

Link to this Page: www.cepr.org/pubs/dps/DP7436.asp

The dangers of shouting ``fire'' in a crowded theater are well understood, but the dangers of rushing to the exit in the financial markets are more complex. Yet, the two events share several features, and I analyze why people crowd into theaters and trades, why they run, what determines the risk, whether to return to the theater or trade when the dust settles, and how much to pay for assets (or tickets) in light of this risk. These theoretical considerations shed light on the recent global liquidity crisis and, in particular, the quant event of 2007.