1 The biggest negative surprise following Lehman Brothers’ default was its effect on money market funds. When one fund, Reserve Primary, “broke the buck” (that is, the value of investors’ money fell below the notional amount invested), the sector was hit by a wave of redemptions that fuelled instability in the credit markets.
Again, banks and companies relying on short-term funding through commercial paper or ABCP (i.e. debt backed by mortgages, credit cards and other consumer loans) could not roll over their debt, except at overnight maturities. The ensuing dynamics in market participants’ behaviour clearly illustrate the presence of knock-on effects, negative externalities, and a coordination failure in the market network.