Wenhao Li

RESEARCH + PUBLICATIONS

• Public Liquidity and Financial Crises

  Abstract

  This paper studies the equilibrium effect of public liquidity on financial crises. Banks borrow from households via insured deposits and partially runnable debt, and suffer endogenous funding withdrawals from households in crises. Holding public liquidity alleviates banks' liquidity problems. In equilibrium, a larger public liquidity supply reduces crisis severity and expands bank lending, but it crowds bank deposits and increases bank vulnerability to real shocks. The model quantitatively explains 40% of Treasury liquidity premium variations. Counterfactual analyses reveal that QE1 significantly improves output, 20 times larger than QE3. However, QE policies raise bank fragility against non-financial shocks such as COVID-19.

  Author[s]

  • Wenhao Li

  Publication

  American Economic Journal: Macroeconomics

  Publication Date

  12.01.2024

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• Granular Treasury Demand with Arbitrageurs

  Abstract

  We construct a novel dataset of sector-level U.S. Treasury holdings, covering the majority of the market. Using this dataset, we estimate maturity-specific demand functions and elasticities of different investors and the Fed, and integrate them into a dynamic equilibrium model of the Treasury market with risk-averse arbitrageurs. Quantifying the model reveals that (1) strong arbitrage leads to an elastic Treasury market and a steeply downward-sloping term structure of market elasticity; (2) monetary tightening raises term premia due to arbitrageurs interacting with investors exhibiting high cross-elasticities; (3) QE has limited impact unless the Fed credibly commits to sustained balance sheet expansion.

  Author[s]

  • Kristy Jansen
  • Wenhao Li
  • Lukas Schmid

  Publication Date

  10.01.2024

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• Deep Learning for Solving and Estimating Dynamic Macro-finance Models

  Abstract

  We develop a methodology that utilizes deep learning to simultaneously solve and estimate canonical continuous-time general equilibrium models in financial economics. We illustrate our method in two examples: (1) industrial dynamics of firms and (2) macroeconomic models with financial frictions. Through these applications, we illustrate the advantages of our method: generality, simultaneous solution and estimation, leveraging the state-of-art machine-learning techniques, and handling large state space. The method is versatile and can be applied to a vast variety of problems.

  Author[s]

  • Wenhao Li

  Publication

  Computational Economics

  Publication Date

  08.01.2024

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• Dissecting Mechanisms of Financial Crises: Intermediation and Sentiment

  Abstract

  We develop a model of financial crises with both a financial amplification mechanism, via frictional intermediation, and a role for sentiment, via time-varying beliefs about an illiquidity state. The model accounts for the entire crisis cycle, matching data on the frothy pre-crisis behavior of asset markets and credit, the sharp transition to a crisis where asset values fall, disintermediation occurs and output falls, and the slow post-crisis recovery in output. Both the intermediation and belief mechanism are essential to match the crisis cycle. However, modeling the belief variation via either a Bayesian or diagnostic model can match the broad patterns.

  Author[s]

  • Wenhao Li
  • Arvind Krishnamurthy

  Publication

  Journal of Political Economy

  Publication Date

  05.01.2024

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• Firm Quality Dynamics and the Slippery Slope of Credit Intervention

  Abstract

  A salient trend in crisis intervention has emerged in recent decades: Government and central banks offered funding directly to nonfinancial firms, bypassing banks and other credit intermediaries. We analyze the long-term consequences of such policies by focusing on firm quality dynamics. In a laissez-faire economy, firms with high productivity are more likely to survive crises than those with low productivity. The government funding support saves more firms but cannot be customized based on firm productivity, dampening the cleansing effect of crises. The policy distortion is self-perpetuating: A downward bias in firm quality distribution necessitates interventions of greater scale in future crises. Our mechanism is quantitatively important: we show that if policy makers ignore such distortionary effects on firm quality dynamics, the resultant credit intervention would almost double the optimal amount.

  Author[s]

  • Wenhao Li
  • Ye Li

  Publication

  Review of Economic Studies

  Publication Date

  01.01.2024

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