Risk Management Failures

Matthieu Bouvard, Samuel Lee
2015 Social Science Research Network  
We present a theory in which deficiencies in risk management arise from a coordination failure. Firms choose privately optimal risk management regimes to be competitive in a market with shortlived trading opportunities but in aggregate can find themselves in a constrained inefficient "race to the bottom," with their best responses to time pressure exhibiting strategic complementarities reminiscent of bank runs. Comparative statics based on global games suggest that greater market access or
more » ... r search (or trading) technologies may improve certain aspects of liquidity but at the same time generate excessive trading that undermines the allocative function of markets. We identify two sources of market failure operating through opportunity costs and agency rents, and discuss approaches to regulating risk management as a governance problem or as a public goods problem.
doi:10.2139/ssrn.2614468 fatcat:juls3f2zarb7bfs6yo73i3fsxu