Review of Finance Vol. 28 No. 6 2024

Circuit breakers and market runs

Dion Bongaerts¹; Sarah D De Luca²; Mark Van Achter³

¹ Department of Finance, Rotterdam School of Management, Erasmus University , 3000 DR Rotterdam, · ² Dutch Authority for the Financial Markets , 1001 GS Amsterdam, · ³ Faculty of Economics & Business , KU Leuven, 2000 Antwerpen,

Abstract

Traders may run on financial markets merely out of fear of future liquidity shocks. We present a model that shows that adequately calibrated circuit breakers can prevent such coordination failures by curbing excessive trading. It suggests a novel, forward-looking circuit breaker that becomes most restrictive in cases when expected welfare losses of inefficient market runs are largest. The probabilities of current and future liquidity shortages are important determinants for such welfare-optimized circuit breakers. We empirically illustrate how to calibrate these parameters. We also determine under which economic conditions circuit breakers damage welfare and should not be implemented.

DOI

10.1093/rof/rfae029

Volume

28

Issue

6

Pages

1953-1989

Language

en

Sources

bibtex:phds-export.bib openalex crossref

Cite

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