Short-Selling Attacks and Creditor Runs

Management Science, Vol. 61, No. 4, pp. 814-830, 2015.

41 Pages Posted: 9 Mar 2011 Last revised: 25 May 2015

See all articles by Xuewen Liu

Xuewen Liu

University of Hong Kong (HKU) - Finance Area, Faculty of Business and Economics

Date Written: May 30, 2010

Abstract

This paper investigates the mechanism through which short selling of a bank's stocks can trigger the failure of the bank. In the model, creditors, who learn information from stock prices, will grow increasingly unsure about the bank's true fundamentals in facing noisier stock prices; thus a run on the bank is more likely because of creditors' concave payoff. Understanding this, speculators conduct short selling beforehand to amplify (il)liquidity and add noise to stock prices, triggering a bank run, and subsequently profit from the bank's failure. We show that short-selling attacks on a bank involve two runs: the aggressive run among speculators and the conservative run among creditors. These two runs interact and reinforce each other, with compound feedback loops that drastically increase the probability of the collapse of the bank. We discuss policy implications of the model.

Keywords: Short-selling attacks, Creditor runs, Coordination, Information asymmetry, Feedback

JEL Classification: G01; G20; G14; G18; D82; D84

Suggested Citation

Liu, Xuewen, Short-Selling Attacks and Creditor Runs (May 30, 2010). Management Science, Vol. 61, No. 4, pp. 814-830, 2015., Available at SSRN: https://ssrn.com/abstract=1780240 or http://dx.doi.org/10.2139/ssrn.1780240

Xuewen Liu (Contact Author)

University of Hong Kong (HKU) - Finance Area, Faculty of Business and Economics ( email )

Pokfulam Road
Hong Kong
China

HOME PAGE: http://web.hku.hk/~xuewenl/

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