The current situation in securitization markets serves as a good example of how information problems are at the root of market failure and how liquidity, or a liquidity shock, can cascade through markets. The events of last summer represented a severe shock to markets.
In particular, the realization of the potential scale of subprime losses and the associated loss of faith in structured products and rating agencies collectively created uncertainty about – and an associated loss of confidence in – counterparty credit quality.