The externality, in turn, resides in the failure of financial intermediaries to internalise this fire sale damage, which affects the broader economy and not just the institutions engaging in such funding patterns.
Accordingly, when assessing the implications of swings in the financial cycle, the key issue for policymakers is not so much to diagnose irrational exuberance as to identify its funding patterns – namely, whether rising asset prices are being fuelled by excessive leverage and maturity transformation which will have systemic consequences when the cycle turns.